In the wake of the July FOMC minutes’ release, which was generally perceived as less hawkish than expected, the market reaction was somewhat conflicting prima facie. Treasuries rallied and equities ended with losses.
If you look deeper at the intraday moves, US shares were choppy throughout the session. The S&P 500 rallied after the Fed minutes were inadvertently leaked almost half an hour before the 2pm timing, but ran out of steam thereafter and ended the session roughly where it was at the start.
This tells me that the trading community is still clutching to bearish positions. It probably did not help sentiments that US shares have been stuck in a consolidation quagmire for the past six months, with seemingly few impetuses to lift it out of the rucksack.
The minutes showed that Fed policymakers believe the conditions for the first rate increase have not been met, mainly due to inflation (or the lack of). Most of the committee members require more evidence before they are reasonably confident in giving the green light.
The minutes said, ‘Most judged that the conditions for policy firming had not yet been achieved, but they noted that conditions were approaching that point. Participants observed that the labour market had improved notably since early this year, but many saw scope for some further improvements.’
The market expectation for a September move faded quickly, with the implied probability now at 36% from 48% before the minutes. This reinforces my view that the Fed will wait beyond the September FOMC meeting to make any policy adjustment. It is also quite likely that economists may amend their forecasts for the timing of the rate move in light of the minutes.
The mixed outlook of stronger employment growth, as well as dimmer growth, and inflation prospects continue to complicate the Fed’s resolve to raise interest rates this year. Unless conditions shift towards what the US central bank wants to see, September is increasingly unlikely to be the month of choice. Moving ahead, I expect inflation data to return to the fore, as the information the Fed keeps close tabs on their policy normalisation decision, while employment figures recedes into the background.
In view of the dovish tint, the greenback lost ground against the major currencies. EUR/USD was a big beneficiary, spiking past $1.11, and headed towards $1.1150 in early Asia. The single currency is now trading above both its 50-day and 100-day moving averages. GBP/USD was firmer, but unable to regain the 1.5700 handle.
USD/JPY broke below $124, although prices seemed to be supported above the 50-day moving average at $123.62. USD/CAD remained elevated, as crude fell further, after US inventory data showed a surprise accumulation of 2.6 million barrels. The market was expecting a drop of 820,000 barrels. WTI slipped below $41, with eyes now on the $40 mark. Meanwhile, USD/SGD inched further away from 1.41, although stiff bids below the 1.40 level cushioned the pair against further declines.
Looking to Asia, regional markets are likely to see downside pressure after the weak leads from overnight markets. Australia and Japan already started on the back foot this morning. China steps up efforts to keep liquidity ample in the financial system, as PBOC uses its medium-term lending facility (MLF) to provide longer-term credit.
Bloomberg noted that the Chinese central bank provided CNY 110 billion to 14 lenders yesterday. Earlier, the PBOC injected CNY 120 billion worth of seven-day reverse repos on Tuesday, the largest amount since January 2014. It may be a matter of time before they turn to the more powerful reserve requirement ratio to support liquidity levels.