After a week of wild swings caused by hyper speculation, we’re finally about to find out what Fed chair Jerome Powell will actually say at Jackson Hole. Many of you are no doubt looking forward to the event passing, potentially allowing for price trends to stick for more than a few hours. Here’s hoping. It’s been a choppy, often frustrating, week.
Powell will be hawkish, but how hawkish?
Looking through the volatility, the overriding seems to be consensus expects Powell will be hawkish. The only real debate is how hawkish? Will it be Jackson Hole 2022, delivering what was arguably the biggest slap to markets since Mario Draghi’s “whatever it takes” moment a decade earlier? Or will he be more nuanced, maintaining the messaging most FOMC members have been running with recently? That is, that further tightening may be required depending on how the economy evolves. In my mind, the balance of probabilities skews heavily in favour of the latter.
Even though recent US data has been resilient, markets are overlooking that monetary policy works with a lag. Powell had to roll out the heavy artillery last year as he knew not only was the Fed behind the curve, but markets were stealing the initiative by preemptively loosening financial conditions heading into the event. To say Powell must deliver something similar, when there’s clear evidence the labour market is cooling with disinflationary trends still in place, is questionable to say the least.
There’s nervousness out there about Powell 2022 2.0.
24 hours before his speech, there’s been a mad scramble towards the US dollar, reversing the weakness of a day earlier. Two and 10-year US yields have pushed back towards their respective cyclical highs. Longer-dated US Treasuries have held up better. Meanwhile, market-based US inflation measures such as 10-year inflation breakeven and 5-year, 5-year swaps have fallen, indicating reduced inflation risks.
In a nutshell, these moves suggest markets are leaning towards Powell delivering another strong hawkish message. It also suggests the bar for meeting expectations is high, adding to the risk of disappointing.
Primed for a bounce but catalyst required
There’s no shortage of asset classes that are primed for a bounce after a relentless dollar-induced battering. But they just need the catalyst. In the FX universe, think the Australian and New Zealand dollars, the Japanese yen and Chinese yuan, just to name a few. Looking at how rapidly the USD has strengthened against them, stretched near-term positioning could easily spark a snap-back.
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