The USD became considerably higher against the major and minor currencies after the Fed’s change in inflation stance. The fallout from the Federal Open Market Committee (FOMC) meeting reset large-scale financial markets.
With the majority of FOMC members now expecting there to be at least two interest rate hikes before the end of 2023 and considering starting to curb its asset purchases by $ 120 billion per month, the impact on all markets has been immense, if not immediate.
And when it comes to reducing asset purchases, Fed Chairman Jerome Powell made a pretty big hint, noting, “You can think of this meeting we had as the ‘talk talk’ meeting. , if you wish it.”
From forex to stocks – the risk-off is back
Initially, the stock market was fairly measured, but by the end of the week the reflation trade seemed to be on its last legs, if not completely dead.
The Dow Jones fell 1.6% and the UK FTSE 100 fell 1.9% – both underperforming other stock indexes due to their preponderance of value stocks.
Bond markets at the shorter end of the curve responded with higher yields following Wednesday’s FOMC policy change.
The restricted nature of bond selling at the start made it seem like there wouldn’t be a repeat of the panic selling during the so-called 2013 tantrum – the last time the Fed had. alludes to a more hawkish attitude towards monetary policy.
But it didn’t last and on Thursday bond markets saw buyers come back and yields retreat. The 10-year Treasury is the most watched due to its influence on global borrowing costs – 6 basis points to 1.51%, while the 30-year fell 10 basis points to 2.1 %.
On the other hand, on the short end of the curve, the 2-year has maintained the upward momentum in rates, up 1 basis point to 0.21%.
In the currency markets, the reaction was the most severe.
DXY makes its debut
The dollar index (DXY) made two large upward movements on Wednesday and Thursday of 0.6% and 0.86% respectively. That, taken together, has been the greenback’s biggest move against other major internationally traded currencies this year.
Both the euro and the pound lost ground against the dollar, but so did many currencies in other countries, especially in Asia.
Until this week, the dollar had weakened over the past 12 months, aside from some appreciation in March.
But the Fed’s final decision to signal to markets that it was aware of rising inflation expectations and what that might say about an overheating economy, both at home and abroad.
The Fed’s move away from assessing the rise in inflation to be transient signaled to the stock market that valuations are surely too rich, given the negative implications for future corporate earnings. So it’s no surprise that US stocks are having their worst week since November of last year.
The dollar strengthens, commodities fall
Commodities were also affected by the strengthening dollar. Those products whose price is USD become more expensive. For now, oil is immune, and its price continues to benefit from the prospect of pulling Iranian oil away from the market as the prospect of nuclear talks leading to the lifting of sanctions wears off.
It was a different story for metals such as copper, which gave up much of their most recent gains. The Chinese government’s decision to release some of its strategic reserves in an effort to contain metal price inflation has added to the decline in the commodity market.
But back to currencies, the most significant repercussions could be for the carry trade between emerging market currencies in the Far East and the dollar. The appreciation of the dollar reduces the opportunities for profit as the spread between interest rates, for example, the Korean won (KRW) and the US dollar narrows.
KRW closed a five-day winning race to see its biggest drop against the dollar since February. The Chinese renminbi also fell. The Japanese yen was an exception, benefiting from its status as a safe haven.
In the absence of major events in the economic calendar in the United States, market participants will be under Fed watch.
Bullard sees interest rates rise earlier – 2022
St. Louis Federal Reserve Chairman James Bullard told CNBC on Friday the economy was doing well, but that came with a caveat.
“We expect a good year, a good reopening. But it’s a bigger year than we expected, more inflation than we expected. I think it’s natural that we be a little more hawkish here to contain inflationary pressures.
Bullard went on to explain that he expects inflation to be 3% this year and fall to 2.5% in 2022 before reverting to the Fed’s 2% target. The Fed had previously said it would be relaxed on keeping inflation above the target level, provided it is not for an extended period.
Bullard added, however, that with inflation above target, he believes there should be an increase in interest rates as early as next year.
Bullard is not currently a voting member of the FOMC, but he will be next year.
It wasn’t until March that the FOMC announced that inflation would hit 2.2% this year – it has now revised it up to 3.0%.
The economy is also more dynamic than previously expected. He now expects GDP to be 7.0%, not the 6.5% he had in pencil a month ago. In December, however, the FOMC had 4.2% GDP this year.