Daily Wrap – The Fed vs The Markets – Part II

The FOMC statement and Powell press conference took all of one hour, but in that short space of time, the market was thrown around by narrative that seemed unsure of exactly how to please its audience.
Chris Weston

We knew the rates market had a pre-set vision of an easing cycle, pricing in some 66bp of cuts through to December, and some 108bp through to December 2020. Obviously, front-end Treasury yields and global bonds more broadly had been the beneficiary of this implied policy path, with funds subsequently being pushed further and further out of the risk curve in search of yield, with the hunt for duration feeding into credit and equity. So, the risk was always that if we didn’t hear what we wanted to hear we would sell out of bonds, which would cause higher implied volatility, negative gyrations in equity markets and cause financial conditions to tighten.

A hawkish cut

Well, that scenario played out. Granted, the actual statement came out just as the market had anticipated, with a 25bp cut to the fed funds rate, a formal end to its balance sheet normalisation program (QT) and two dissenters (George and Rosengren were against easing). With narrative that the board will “act as appropriate to sustain the expansion”.

This, in itself, gave us a feel we were leaning to a hawkish cut, but things got spicy in markets when Powell spoke. The focal point of what we initially heard was this 25bp cut was a “mid-cycle adjustment to policy”, and that this was an insurance cut to keep in check the fallout from considerations such as trade. That we should not just consider that we had a 25bp cut, but it should be taken into context of the broader trend in policy, with the move to a patient stance, which is now accommodative, and that in itself is providing a more holistic support cushion to a resilient US economy.

It was a cut that many saw a really just taking out the December hike.

The Fed picking a fight with the market – the market will always win

“Mid-cycle” was all that mattered though. That was the red flag, and the market heard enough evidence that its implied easing path was thrown into question. The result, hardly surprisingly, was a move in US 2-year Treasury’s from 1.82% into 1.96%, with the 2s vs 10s yield curve falling 11bp to 10bp. The USD went on a run, with USDJPY tracking into 109, while EURUSD broke the triple bottom at 1.1106, taking the DXY higher for a ninth straight. AUDUSD fell from 0.6891 in to 0.6832, with EM FX finding a wave of offers as you’d imagine.


Gold fell $16 into $1410, with gold stocks hit hard, while the S&P 500 was sold 1.8%. The market was viewing this as a policy error, and flashbacks of Q4 18 were all too evident…the market hadn’t heard what it wanted to hear, and let the Fed know how they felt.

Powell is becoming well known for his pivots, and in this case, it’s almost as though he had someone in his ear telling him the market reaction, that towards the latter stage of the press conference, he walked back his earlier view. Once again, it’s clear. In an easing cycle, it’s the market that set policy, not the Fed, and if you want to challenge that dynamic, we will see volatility.

To clarify the “mid-cycle” comments, Powell detailed he meant it wasn’t the start of a long cutting cycle, and that he “didn’t say just one rate cut”. This narrative saw support kick back into bonds with a decent reversal in 2s, with the S&P 500 rallying to ultimately close 1.1% lower on the session. The rates market closed the day pricing a 64% chance of a September cut, so Powell has managed to install some belief the market is still on the money, but it feels like the communication with the markets is on more shaky ground.

The market needs time to regroup

The market now needs a couple of days to really digest this, and quite often in these meetings, the first move is not always the right move. We were hoping for clarity, and what we have been left with is more questions, so its back to listening to the Fed and ideally the man who many feel is the real governor on the board – Richard Clarida. That said, in the near-term, the most immediate scheduled speaker is James Bullard (7 August).

We will be keeping an eye on tonight’s (00:00aest) US ISM manufacturing, which after the overnight Chicago PMI, which came in at a woeful 44.4 (vs 51.0 eyed), surely holds downside risk to the consensus call of 52.0 on that index. After that, it’s on to Friday’s US payrolls, although when the Fed is looking more closely at inflation expectations and trade, the payrolls print should affect pricing too greatly, unless its an absolute disaster.

A weaker Asia open

The wash-up is we will see a weaker open in Asia, with the ASX 200 called to open just below 6800. The Hang Seng, Nikkei 225 and China should open around 1% weaker, and there is little in the way of data to really influence here. Gold stocks will find sellers easy to come by on the open, while on a more diversified level, BHP is indicted to open 1.6% lower. It’s not an ideal day for RIO to report numbers (after the bell), but even though we’ll see sellers on the open, there won’t be any panic. In fact, the open will offer a lot in the way of psychology, and I will be looking to see if traders buy the opening weakness or add onto the weaker open.

Sign up here for my Daily Fix or  Start trading now

Chris Weston, Head of Research at Pepperstone.

 (Read Our Pepperstone Review)

Don't miss a thing!

Discover what's moving the markets. Sign up for a daily update delivered to your inbox

Latest Articles

See All

Expand Your Knowledge

See All
The content provided on the website includes general news and publications, our personal analysis and opinions, and contents provided by third parties, which are intended for educational and research purposes only. It does not constitute, and should not be read as, any recommendation or advice to take any action whatsoever, including to make any investment or buy any product. When making any financial decision, you should perform your own due diligence checks, apply your own discretion and consult your competent advisors. The content of the website is not personally directed to you, and we does not take into account your financial situation or needs.The information contained in this website is not necessarily provided in real-time nor is it necessarily accurate. Prices provided herein may be provided by market makers and not by exchanges.Any trading or other financial decision you make shall be at your full responsibility, and you must not rely on any information provided through the website. FX Empire does not provide any warranty regarding any of the information contained in the website, and shall bear no responsibility for any trading losses you might incur as a result of using any information contained in the website.The website may include advertisements and other promotional contents, and FX Empire may receive compensation from third parties in connection with the content. FX Empire does not endorse any third party or recommends using any third party's services, and does not assume responsibility for your use of any such third party's website or services.FX Empire and its employees, officers, subsidiaries and associates, are not liable nor shall they be held liable for any loss or damage resulting from your use of the website or reliance on the information provided on this website.
This website includes information about cryptocurrencies, contracts for difference (CFDs) and other financial instruments, and about brokers, exchanges and other entities trading in such instruments. Both cryptocurrencies and CFDs are complex instruments and come with a high risk of losing money. You should carefully consider whether you understand how these instruments work and whether you can afford to take the high risk of losing your money.FX Empire encourages you to perform your own research before making any investment decision, and to avoid investing in any financial instrument which you do not fully understand how it works and what are the risks involved.