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10 Mar 2017
Non-Farm Payroll look-ahead - PM Bulletin
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Market expects Fed to hike rates next week - Video Update
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According to the CME’s FedWatch Tool there is currently around an 86% probability that the US Federal Reserve will raise rates by 25 basis points when its two-day meeting concludes next Wednesday. This is up from around 20% just over a week ago so illustrates a dramatic shift in sentiment.

The FedWatch Tool is based on fed funds futures which are traded on the CME. It is perhaps the most accurate of all the measures of Fed rate hike probability as it reflects the weight of real money being wagered on a specific outcome. Once the number gets into the 80s then a corresponding move from the Fed is pretty much nailed on.

What is perhaps unusual is how the odds flipped from a 1 in 5 chance of a rate hike to a 4 in 5 chance in little more than 24 hours. The pivotal moment was a speech from FOMC-voting member William Dudley which came just a few hours ahead of Donald Trump’s highly-anticipated speech to Congress. Bill Dudley is President of the New York Federal Reserve and vice-chair of the FOMC. This makes him one of the three most important and influential members of the Federal Reserve, alongside Fed Chair Janet Yellen and Vice-Chair Stanley Fischer. Consequently, investors pay close attention to anything he has to say. Last Tuesday evening he said that the case for tightening had “become a lot more compelling." Mr Dudley is considered to be one of the more dovish members of the FOMC and his comments led to a rapid recalculation of the odds on a rate hike at next week’s meeting.

Then on Friday Janet Yellen delivered a speech which did nothing to dampen expectations of an imminent rate hike. She said that an increase at the March FOMC meeting “would likely be appropriate”, as long as incoming data continue to confirm officials’ outlook. While this does suggest that the Fed could hold off if this week’s Non-Farm Payroll number disappoints, that is extremely unlikely. If the headline number was to come in a long way below expectations it would most likely be considered rogue. The six-month average continues to come in around 170,000 which is considered healthy and the expectation is that Average Hourly Earnings will bounce back after last month’s disappointment.

Meanwhile, President Trump’s address was regarded as his most conciliatory and unifying since his victory speech back in early November. It was also considered to be his most presidential as it was optimistic in tone, addressed the administration’s plans for America’s future while there were no snipes at either the media or the prior administration. The speech was light on detail, but it was more than enough to convince investors that fiscal stimulus is on its way.

But this may prove to be a problem. At the Fed’s December meeting when the central bank hiked rates for the first time in a year, Janet Yellen was asked if she was concerned about the risk of the economy overheating should Trump manage to push through fiscal stimulus. She said there was no obvious need for such stimulus as the US employment situation had improved. Dr Yellen’s reply suggested that Trump’s campaign promises (assuming they get through Congress) could raise inflation expectations - especially at the Fed. If investors come to feel that the central bank is prepared to raise rates more aggressively than expected, then that could be a big headwind for equities, especially as all of Trump’s policy proposals will add to US national debt. This hasn’t been viewed as an issue thanks to record low interest rates. But if these now start to rise, we could have a problem. It’s worth remembering that March 15th is not only the last day of the FOMC meeting, but also the day when the US debt ceiling suspension expires. 

Disclaimer:

Spread Co is an execution only service provider. The material on this page is for general information purposes only, and does not take into account your personal circumstances or objectives. Nothing in this material is (or should be considered to be) financial, investment or other advice on which reliance should be placed. No opinion given in the material constitutes a recommendation by Spread Co Ltd or the author that any particular investment, security, transaction or investment strategy is suitable for any specific person.

 

Posted by David Morrison

Category: PM Bulletin


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