- At its first FOMC meeting of the year, the Federal Reserve lined up March as when interest rates in the US will start to move higher. Noting that inflation was “well above 2%” and that the labour market was “strong” the Fed statement said that it will “soon be appropriate” to raise rates, with Fed chair Jerome Powell confirming March as when lift off would happen. But Powell also stated in the press conference after the statement that policy would need to be “nimble” to respond to the uncertainties in the US economy at present. He said there was a risk that high inflation “will be prolonged, there’s a risk that it will move even higher,” which would open the Fed to an even more aggressive cycle of tightening policy than currently expected.
- The January FOMC didn’t give much more clarity on how the Fed will deal with the enormous balance sheet it is managing at the moment apart from saying that in the long run it intends to mainly hold Treasuries. Powell noted that the balance sheet reduction would be the focus of upcoming meetings, but that this process would only get underway once the rate hiking cycle had begun.
- The Bank of Canada chose to keep rates on hold as well at its own monetary policy meeting. Governor Tiff Macklem has indicated in the past that rate hikes would be well signalled to markets and borrowers in advance, rather than just responding to market conditions preparing for tighter monetary policy. The BoC then looks to still be intending to make use of forward guidance as a major policy tool even as inflation pressures are a substantial near-term risk for the Canadian economy.
Today’ Economic Data and Events
- 17:30 US Initial jobless claims Jan 22: forecast 265k
- 17:30 US Durables good Dec: forecast -0.6%
- 17:30 US GDP annualized Q4: forecast 5.5%
Fixed Income
- Bond markets sank on the Fed’s hawkish tone at the January FOMC. With four rate hikes now looking like the bare minimum for this year credit markets will likely go through a period of sharp readjustment to a higher rate environment. In the UST market, yields on the 2yr UST surged higher to close at 1.1504%, up 13bps while the 10yr yield added more than 9bps to 1.8637%.
- Swaps markets have also moved higher to price in five hikes this year with terminal rates of around 1.25% compared with four hikes and a policy rate at 1% at the start of the week. Essentially every meeting this year now has the chance of being live with Fed chair Jerome Powell that they could be prepared to hike potentially at every meeting.
- International bond markets also closed the day lower ahead of the Fed’s decision but we would expect to see sell-offs in developed market bonds in response to the FOMC. In the bund market 10yr yields were up marginally by less than 1bps to -0.076% while 10yr gilt yields rose more than 3bps to 1.197%.
- Emerging market bonds were mixed overnight in anticipation of the Fed but we would expect a negative adjustment in response to the aggressively hawkish signals coming from the US.
FX
- The hawkish tone from the January FOMC helped to propel the dollar higher against peers with the DXY index adding more than 0.5% overnight to settle the day at 96.478. EURUSD sank late in the day in response to the Fed, falling by 0.54% to move well below the 1.13 level and close at 1.1240. USDJPY also popped higher as the policy divergences between the Fed and low yields central banks like the Bank of Japan are set to become even more stark. USDJPY closed up almost 0.7% at 114.64. GBPUSD also fell overnight, down almost 0.3% to 1.3463.
- Among the more risk-oriented currencies CAD managed to stem the losses somewhat even as the Bank of Canada disappointed by holding rates unchanged. USDCAD closed up 0.3% at 1.2670. Both the antipodean currencies were off sharply though with AUDUSD down 0.5% at 0.7115 and NZDUSD down by 0.52% at 0.6652.
Equities
- Equity markets have largely been downbeat following the FOMC announcement which held little in the way of surprises. After a choppy session, the NASDAQ closed flat while the S&P 500 (-0.2%) and the Dow Jones (-0.4%) both lost ground, though at a far more muted rate than seen in recent sessions. Asian markets have largely been in the red so far this morning, however, with the Nikkei down -2.4% so far and the Shanghai Composite -0.7%.
- Earlier yesterday European equity markets had a stronger session, with the FTSE 100 adding 1.3% and recouping the losses seen earlier in the week. The CAC added 2.1% and the DAX 2.2%.
- Within the region, the ADX closed up just 0.1% while the DFM added 0.5% and the Tadawul 0.6%. The EGX 30 lost -0.3% yesterday.
Commodities
- Oil prices largely shrugged off the prospect of tighter US monetary policy overnight with Brent futures pushing above USD 90/b briefly overnight before pulling back somewhat toward the close. Brent settled the day at USD 89.96/b, up 2% while WTI rose by around the same amount to close at USD 87.35/b. Both contracts are down by around 0.8% in early trading today, however.
- Data from the EIA showed a second weekly build in US crude inventories last week, up by 2.4m bbl though inventories at Cushing were lower. Gasoline stockpiles also continued to build although there were draws across much of the rest of the barrel. US production slipped back by 100k b/d last week to 11.6m b/d while product supplied edged higher by 500k b/d.
- With the threat of as many as five rate hikes this year gold prices tumbled last night, down by 1.5% to close at USD 1,819.59/troy oz. The outlook for gold will be increasingly challenging in the face of higher nominal and real yields in the US market. Elsewhere industrial metals were generally higher across the board.
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