The dollar was up against the major currencies on Tuesday as traders continue to prepare for what will be the heart and soul of the Forex trading week. Moreover, there were smiles on most traders faces on Tuesday due to the fact that the sleeping giant did awake from the hibernation that characterized trading on Monday.
Now focus will turn to the FOMC rate decision tomorrow and in particular the statement. This month, Fed Chair Janet Yellen is not scheduled to give a press conference. So the statement will provide the clues that "the market" will use to judge whether the Fed is more hawkish versus the last statement from the June 18th meeting.
If they are more hawkish, the dollar should continue to get stronger and continue the trend seen in trading recently. It is very much thought amongst analysts, that the Fed is not going to be more dovish. So the choice is more hawkish, or the same. Then the judgment will extend to the degrees of hawkishness.
To fully comprehend, it is important to understand what was last written after the June 18th meeting, and then make a judgement on what the voting members are thinking now via the new statement.
At the last meeting the following was the first paragraph from the statement. The paragraph read
Information received since the Federal Open Market Committee met in April indicates that growth in economic activity has rebounded in recent months. Labor market indicators generally showed further improvement. The unemployment rate, though lower, remains elevated. Household spending appears to be rising moderately and business fixed investment resumed its advance, while the recovery in the housing sector remained slow. Fiscal policy is restraining economic growth, although the extent of restraint is diminishing. Inflation has been running below the Committee's longer-run objective, but longer-term inflation expectations have remained stable."
In this paragraph the Fed paints the broad brush picture of the economy. Growth has rebounded in the 2nd quarter from the first. Is is running at an accelerated pace? No. It is up but,it is a rebound from a harsh winter 1st quarter where GDP fell by -2.9%. Some on the Fed, might argue that the rebound is not what they had hoped (expectations are for around 3%).
How about the labor market? There has only been one US Unemployment report since the June 18th statement, but it has shown continued improvement with the rate falling from 6.3% to 6.1% and with the Non Farm Payroll showing solid growth of 288K. This ran the string of better than 200K job gain months to five with the average over that period of 248K.
On Friday the expectations is for a 230K increase, which although less than the 5 month average, is still more solid than say the 2013 year average of 194K. The caveat for employment, however, is that rate and gains – although in the right direction – are still not to where the Fed or Chair Yellen would like. The 6.1% gains is not 5.5% which many consider to be closer to full employment and the Participation Rate is at all- time low levels. This is suggestive of a pocket of people who may still be structurally unemployed and suffering. Janet Yellen and a number of FOMC voting members are sympathetic to those people.
Nevertheless at her semi-annual Humphrey Hawkins testimony on July 15th, Yellen did state in her prepared text that:
Broader measures of labor utilization have also registered notable improvements over the past year"
I characterized this comment as being more toward the "glass is more full", than empty. The market will be looking for perhaps a further clarifying comment on employment that suggests more confidence in the overall trend, i.e., something a little more glass half full. Will more words be included with regard to employment? There is a possibility. I will be looking for something more. The rest of the paragraph should remain as is.
In the 2nd paragraph of the statement last month, it read,
Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. The Committee expects that, with appropriate policy accommodation, economic activity will expand at a moderate pace and labor market conditions will continue to improve gradually, moving toward those the Committee judges consistent with its dual mandate. The Committee sees the risks to the outlook for the economy and the labor market as nearly balanced. The Committee recognizes that inflation persistently below its 2 percent objective could pose risks to economic performance, and it is monitoring inflation developments carefully for evidence that inflation will move back toward its objective over the medium term."
If the Fed is to be more hawkish, look for a change in the sentence "…the risk of the outlook for the economy and the labor market as nearly balanced". By definition, a more hawkish FOMC might see risks not so neutral. Will we get it in the statement this month? It is probably too soon still. There are likely enough, "Yeah, but…" policy makers, including the Chair who is still new in her role and does not want to be the one to ruin the party.
The third paragraph outlines the taper. For your guide, this is the standard message. I do not expect any changes:
The Committee currently judges that there is sufficient underlying strength in the broader economy to support ongoing improvement in labor market conditions. In light of the cumulative progress toward maximum employment and the improvement in the outlook for labor market conditions since the inception of the current asset purchase program, the Committee decided to make a further measured reduction in the pace of its asset purchases. Beginning in July, the Committee will add to its holdings of agency mortgage-backed securities at a pace of $15 billion per month rather than $20 billion per month, and will add to its holdings of longer-term Treasury securities at a pace of $20 billion per month rather than $25 billion per month. The Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction. The Committee's sizable and still-increasing holdings of longer-term securities should maintain downward pressure on longer-term interest rates, support mortgage markets, and help to make broader financial conditions more accommodative, which in turn should promote a stronger economic recovery and help to ensure that inflation, over time, is at the rate most consistent with the Committee's dual mandate."
The fourth paragraph reads:
The Committee will closely monitor incoming information on economic and financial developments in coming months and will continue its purchases of Treasury and agency mortgage-backed securities, and employ its other policy tools as appropriate, until the outlook for the labor market has improved substantially in a context of price stability. If incoming information broadly supports the Committee's expectation of ongoing improvement in labor market conditions and inflation moving back toward its longer-run objective, the Committee will likely reduce the pace of asset purchases in further measured steps at future meetings. However, asset purchases are not on a preset course, and the Committee's decisions about their pace will remain contingent on the Committee's outlook for the labor market and inflation as well as its assessment of the likely efficacy and costs of such purchases."
Always hedging their bets with the caveats for a reversal. Nevertheless, the only change that may occur is a statement that addresses the residual $5 billion taper that, should the pace continue at $10 B per month, would be left at the end. Specifically, would they do $15B in October or leave $5B for the December meeting?.
The Fed and Yellen has already addressed this in the minutes and testimony by saying they would do a final $15B in October. So the statement might include this known fact. This is not new news.
The final two paragraphs read:
To support continued progress toward maximum employment and price stability, the Committee today reaffirmed its view that a highly accommodative stance of monetary policy remains appropriate. In determining how long to maintain the current 0 to 1/4 percent target range for the federal funds rate, the Committee will assess progress–both realized and expected–toward its objectives of maximum employment and 2 percent inflation. This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial developments. The Committee continues to anticipate, based on its assessment of these factors, that it likely will be appropriate to maintain the current target range for the federal funds rate for a considerable time after the asset purchase program ends, especially if projected inflation continues to run below the Committee's 2 percent longer-run goal, and provided that longer-term inflation expectations remain well anchored.
When the Committee decides to begin to remove policy accommodation, it will take a balanced approach consistent with its longer-run goals of maximum employment and inflation of 2 percent. The Committee currently anticipates that, even after employment and inflation are near mandate-consistent levels, economic conditions may, for some time, warrant keeping the target federal funds rate below levels the Committee views as normal in the longer run."
It is too soon to expect the Fed to start to address more specifically the removal of the policy accommodation, i.e., tightening the Fed funds rate, in the statement. At the next meeting in September, the FOMC members will start to give the assessment of the economy from the viewpoint of the 2H. They will also have the hindsight of the July and August employment reports to make a judgment on the state of the job market. Finally, there will be a scheduled press conference from Yellen who could further explain what the Fed was likely to do when tightening does begin. This month is not the time to rock the boat with more details.
Overall, I would expect the FOMC statement to be more of the same, than different. However, it is by the smallest of degrees of sentiment that the market will judge whether the Fed is unchanged or more hawkish. Those small changes will come in the words.
I will be keeping an eye out for the little nuances for trading clues on the dollar. If the Fed is more glass half full (or better than half full), look for the dollar to get stronger. If they do not change, the gains we have seen recently, may see some corrective action.
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