Janet Yellen lights up the USD

Squeezed, popped, stopped out, and exploded - Janet Yellen and the FOMC have talked the currency market to its largest one-day move since March 18 2009 on the dovish outlook for the US.

Source: Bloomberg

The moves that matter:

  • EUR/USD – the pair started the US session at $1.057 and it’s now up 3.2% to $1.102, which is a five cent move in seven hours. Before the Fed release, it was $1.062 - that’s a four cent move in an hour and half; at one point the pair moved 150 pips in 2 minutes.

The question this raises is what does this mean for the European markets? The DAX has been flying on ECB QE and the plummeting moves in the EUR. It’s the best performing equity market in the developed world and it is up 21.6% year-to-date – the currency move is likely to lead it to underperform over the very short term. Watch the European futures on the open later today.

  • USD/JPY – It was looking to punch through ¥122 and had been testing this level over the past seven days as the BoJ kept the printing presses on full and expectations built that the Fed would be edging toward rate rises. However, this case is now on ice. The Nikkei’s march toward 20,000 looks like it will be on pause for a while longer as USD/JPY fell to ¥119 from ¥121.5. The inverse correlation between the JPY and the Nikkei will mean the Nikkei is likely to fall out of bed this morning and it’s currently pointing down 80 points; however this is likely to ramp up as Asian investors arrive at their desks.

  • Aussie interbank market expectations of another RBA rate cut – intraday movements in AUD/USD have been as much as 2.4%, opening in the USD at $0.761 before being squeezed all the way up to $0.784. The fact that the Fed has now moved ‘data dependent’ expectations to even lower levels than originally estimated means the RBA can’t wait for the Fed to do its bidding. The interbank market’s expectations of a 25 basis point rate cut in April was 32.8% at the close yesterday and it has opened this morning at 49.2%. Expectations for the May meeting have gone from 82.3% to 98.5%. The news this morning is going to create a headache for Glenn Stevens and co. in Martin Place as they look to stimulate non-mining and wage growth. It’s going to send plenty of cash back into the yield trade as a result – expect big moves in the banks today.

What’s changed from the Fed to cause the market reactions

Although the headlines will read ‘patient’ removed – it’s the underlying detail that is certainly more dovish than expected, as all three major parts of the Fed’s ‘data points’ are lowered.

  • We’ve seen major moves lower in the ‘dots’ projections – down 62.5 basis points from 1.125% to 0.625% by year-end 2015, effectively slicing the forward guidance into pieces. This means the Fed is likely to raise rates twice this year, rather than the expected three. It has slashed year-end 2016 numbers to 1.87% (-62.5 bps) with year-end 2017 expectations down to 3.125% (-50bps). So this would mean five movements higher in both 2016 and 2017, however it would mean that rates are moving later rather than sooner.
  • Growth exceptions moved from ‘solid pace’ to ‘somewhat moderated’ with the biggest issue being ‘export growth weakened’; a thinly veiled shot at the local currency’s appreciation. GDP is now expected to be 2.5% in 2015 and 2016 (both lowered by 0.3%) and looks to be under further pressure considering the language used.
  • Recalibration of employment expectations - this could be one of the biggest stories from the statement. The Fed now sees unemployment falling to 5.1% before moving rates. It sees wage inflation being a major concern and thus needs unemployment to cover the stagnating wage growth. This means non-farm payrolls will need to continue to ramp up to move the Fed.
  • Inflation expectations were also lowered to 1.35% in 2015 – lower by -0.3% and down to 1.7% in 2016; rate expectations from the market has moved out to October on the back of all of this news.

Ahead of the Australian open

The news this morning well and truly helps the yield trade;  the pop in the interbank market and the moves in the AUD are net positives for this trade. Based on the moves in the futures markets and expectations around the yield, we are currently calling the ASX up 39 points to 5881.

The only concern will be iron ore sliding a further 3% to US$55.48 a tonne; although the yield trade that is materialising in the likes of BHP is growing, revenue concerns are just as pressing.

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