Asia Morning: The Federal Divided Open Market Committee

Market Analysis /
19 Sep 2019


The FOMC: “Th-th-th-that's all folks!" or is it?


The Fed's central message is it's done with rate cuts. But they may also be giving off the appearance of a highly divided group tasked with balancing the trade war malaise against healthy consumer and jobs sectors.


However, it is assumed by most economists the tariff damage will eventually cause US economic data to deteriorate which could lead the Fed to cut more.


With very few shifts in languages or nuance, the FOMC might be perceived as a mild disappointment to those expecting a more dovish waxing as between the ECB and Fed; central banks are giving the appearance of walking back from the cliff edge of the rate cut abyss while only delivering on the markets bare minimums wants.


The supportive U.S. economic data gave the Fed a perfect opportunity to walk down some of the market's dovish ambitions while holding back a policy deluge for rainier days. After all its about the data, isn't it?


Not surprising rates markets reacted to the event in a volatile fashion, but this was possibly driven more by the unwinds of overly dovish bets rather than a shift in the overall rates market structure. The Fed message today, after all, is still consistent with Powell's Jackson Hole speech where the outlook remained positive against a backdrop of trade uncertainty and downside risks.


Also, the net bottom line now appears that the Fed could maintain a gradual easing approach rather than either become more aggressive or even pausing for now.


Amid a funding crunch in the repo market, the Fed also cut interest on excess reserves (IOER) which could provide enough grease and duct tape to bridge the short term funding squeeze brought on by the Fed balance sheet unwind, the colossal amount paper floating in September and of course as primary dealers are burdened to take on more supply. 



Equity markets


U.S. stocks are trading higher on the Fed rate cut and as investors take comfort as a sense of normalcy returns to the oil markets after Saudi Arabia has reported most of its oil output will return to normal production levels in weeks.


Investors are likely confused with the Feds messaging, and perhaps the ultimate problem with this type of FOMC dispersion model is that it's confusing, which means more uncertainty, and uncertainty could possibly lead to risk reduction.




Oil market


Traders appear less focused on the politics of war today while quickly turning to the reality of a speedy return of Saudi Arabia's crude production amid market calming rhetoric from International Energy' Agency's Executive Director Fatih Birol who said the oil market remains well supplied with ample stockpiles, despite the weekend attacks.


Given that Saudi Arabia oil production will soon return to normal. It might weigh on supply risk premiums which were starting to build along the forward curve. However, with the weekend approaching traders could be more apt to maintain hedges against possible weekend headline risk especially in the absence of a measured response from the U.S. or Saudi Arabia


Also weighing on WTI prices, there was a less accommodating Fed than markets wanted while according to the EIA data crude stocks rose 1.1Mb, bearish vs consensus for a 2.5Mb draw and the 5-year average of -0.4Mb, and slightly above the 0.6Mb increase reported by the API data yesterday. 


The markets will ultimately remain in a heightened state of alert as to how Saudi Arabia retaliates for the attack. President Trump has already walked back all his fire and fury now suggesting the U.S. will add "some very significant sanctions" and announce them within the next 48 hours. While Saudi Arabia, keeping in mind their position as the de-facto leaders of OPEC, frankly, they may not want to stir up a middle east hornet's nest all of which is suggesting a more measured response.


So, with the U.S. and Saudi appearing more likely to take the sanction rout against Iran, it would not necessarily add to an already heightened level of supply risk premium.



Gold markets


Gold initially fell as the Fed failed to meet the markets dovish forward expectations but held above $1480 thought to be a significant crossroads for fundamental and technical analysis. And gold prices have started to show signs of recovering after bouncing off support by the trade war calm which could continue to lessen gold's glittering attraction.


However, its real rates are thought to be the long-term critical driver for gold now, while the dollar's influence may be somewhat muted due to low volatility.  


While we could see further corrections over the next few weeks as trade headlines continue to influence, ultimately, the lower for longer interest rates outlook could possibly lend support.


So, while we could see further corrections over the next few weeks as trade headlines continue to influence but its thought hat the lower for longer interest rates outlook might lend support



Currency markets


The dollar is trading higher as F.X. traders possibly interpreted the Fed mildly more hawkish than expected. However, with the Fed maintaining a cheery outlook regarding the U.S. economy, suggesting that whatever stress test you want to put the dollar under, it may continue to come up smelling of roses and may not drift too far from the recent high watermarks.

Read more market views from Team AxiTrader:

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