As expected, the Fed continued to taper its asset purchases program by moving the monthly rate by any other $10 billion to $55 billion from $65 billion a month, split evenly between treasuries and mortgage-backed securities.
Also as expected, the Fed’s statement showed that the committee has dropped its explicit unemployment rate threshold of 6.5% to revert to a more qualitative take on the unemployment read through forward guidance. With the US unemployment rate at 6.7%, the 6.5% rate was already redundant and 100% of economists expected this change. The statement also showed the new forward guidance will mean that the Fed funds rate will remain well near zero: ‘well past the time the unemployment rate hits 6.5%’.
The FOMC also changed its interest rate projections with the medium read seeing the Fed funds rate upped by 25 basis points to 1.00% by year-end 2015 from 0.75%; the year-end 2016 estimates was raised by 50 basis points to 2.25% from 1.75% - a vast increase. The board did acknowledge the recent winter conditions, but they saw this as a blimp in the longer-them trends, which is believed will filter out in Q2, but the increases here are higher than market expectations. These shifts in projections have caught the market on the back foot; before the meeting the market had only priced in a move to 0.65% by year-end 2015 on the Fed funds rate, and the stronger guidance has seen bonds working feverishly to catch up to these new metrics.
What has got the markets in a real bind has been Yellen’s press conference, when she was asked to clarify what was meant by this statement: The Fed sees interest rates remaining near zero ‘for a considerable time after the asset purchase program ends.’ Her response was a ‘considerable period of time’ equates to six months. That means rates could be raised six months after the asset purchase program ends.
This sent equity and bond markets into a tail spin and mass strength through the USD. The timeline for the end of the asset purchase program is open ended to ‘sometime in Q4’. However, on the current unwind, trajectory purchases could come to an end as early as October, which would suggest rates could be raised as early as March - something that was not expected at all and is a hawkish development.
US markets saw mass intraday moves on these statements, dropping from eight points in the green to 200 points in the red before recovering slightly. The market has not responded well to hearing that the monetary stimulus programs are coming to an end soon, and harder than expected. Although today’s moves can be seen as an overreaction, once again communication from the FOMC has led to short-term volatility. I would expect to see Yellen’s next speech being much more scripted and without interpretation.
Ahead of the Australian open
The market had looked like starting the day in a fairly benign manner, however the statements from the FOMC has changed all of that. We are currently calling the ASX 200 down 34 points on the 10am bell (AEDT) to 5321; however the fall in the AUD may see slight support for exporters.