The FOMC decision lived up to its stormy expectations, but seriously wrong-footed the markets and gutted dollar long position as dollar bulls found themselves hitting the reboot button.
Let’s face it – it was hard to envision much more Fed tightening in the near-term, with the market leaning three hikes in 2017 and pricing in a 2 in 2018. But the ever-present speed bump, Dr Yellen, delivered a baseline of at least two hikes this year, but probably three, focusing the markets on the Summary of Projections, primarily the nefarious dot plots. The first words I heard down the squawk were, “So what are we going to do now?”.
Little changed in the Fed’s policy outlook from that communicated in December, so the trading decision was easy, as EM FX roared back to life setting the stage for the AUD to shine and, in predictable fashion, the USD/JPY rolled over.
The absence of any observable hawkish guidance from the Fed will leave the greenback under pressure near term. USD/JPY ingested most of the initial move, but the response from AUD, NZD and EM traders suggest the market will be in ‘carry on’ mode for the foreseeable future.
Australian Dollar
So much for the month-long market repositioning amid concerns that the Fed was looking to push U.S. rates higher at a much faster pace, boosting the likelihood of the divergence in monetary policy between the U.S. and G10 currencies.
Aussie dollar traders were quick to tap the reset button as whatever silly arguments we were making for a lower AUD went out the window, as it became apparent that not only is now a good time to unwind shorts, but it is likely a good opportunity to get some carry-on.
The dove, Yellen, in one comment, “the data have not notably strengthened”, made the markets a safe place to extend risk at least until June anyway.
As we find ourselves back in the AUD death valley at .77-.7750, the speed of the move has me erring in buy on dip mode, as opposed to chasing this initial move, especially ahead of the employment data. But I suspect the all clear signal from the Feds bodes well for AUD, where I would expect the carry appeal to have a more lasting effect on the dollar bears.
The Australian Employment data came in at -6.4 K vs. +16.K while unemployment rates at 5.9% vs. 5.7 % suggest a clear out of freshly minted longs. But given the unpredictability and huge variance in this data point, I expect the Aussie to remain supported on dips
G-3
The less hawkish tone from the Fed also boosted Europe’s single currency, and the JPY strengthened against the USD to 113.15 before the buck recovered. While the yen move is a USD bond driven, the euro looks to be a more interesting setup.
With EUR refusing to concede 1.05 despite Fed hikes, U.S. Treasury selloff, European election risks, ECB extending bond buying program and Trump’s talks on fiscal, the euro may end up being the biggest beneficiary of the Dovish Fed. With near-term political risk fading and the chance that Draghi could reinforce his surprisingly hawkish tenor of late, the euro may be poised to make some significant headway despite the lingering risk of the French election.
EM Asia
So much for the market fearing a hawkish Fed. Dr Yellen’s delivery couldn’t be anymore dovish, with the Fed view back to a baseline of at least two hikes. It is all but an open invitation to buy EM, equities, commodities and re-engage the carry trade as the Fed has greenlighted risk for the foreseeable future. Forget a May hike and look for June to fade at the slightest hint of softer U.S. economic data.