FOMC on course to hike rates in Dec

The Federal Reserve held rates steady this month, as the market had expected, however, they continue to prep the market for further rate hikes, including a hike in December. This is roughly in line with market expectations, there is now an 87% chance of a rate hike in December priced into the Fed Funds Futures market, which has only ticked slightly higher post this Fed statement.

Pesky inflation could derail Fed’s dot plot

The Federal Reserve upgraded it growth outlook by saying that it expects US growth to expand at a “moderate pace”, and labour market conditions will “strengthen somewhat further”. The big problem for the Fed at this stage is the inflation outlook. The Fed acknowledged that inflation is likely to remain below the 2% target rate for the near term, although it expects inflation to reach the Committee’s 2% target in the “medium term”. The big question for investors’ now is when is the medium term that the Fed references. Does it mean that the Fed needs to see inflation back at 2% in the next 6 months or the next 2 years’? One person’s medium term timeframe can be very different from someone else’s. If the Fed is looking for inflation to reach the 2% rate in the next 6 months or so then that could be problematic for its dot plot, which is expecting 3 rate rises in 2018, more than current market projections. So who is correct, the Fed or the market? It is likely that the coming months’ inflation data will answer this question for us.

Muted market reaction, but new Fed announcement could cause waves

The market reaction to the Fed statement was fairly muted. Treasury yields reversed earlier gains and backed away from the key 2.4% mark. The dollar’s reaction was also small, even though the Dollar index remains close to a 4-month high. The most interesting thing about the dollar reaction today is that the buck has risen against the major G10 currencies such as the euro, GBP and JPY (although overall losses are small), while it has fallen against the weakest G10 currencies such as the NZD, CAD and AUD. This suggests that the FX market is squaring some of the most stretched short positions vs. the dollar, particularly shorts in NZD/USD. Thus, the fact that today’s statement did not move the dial for markets to expect further rate hikes in 2018 suggests that the kiwi and Aussie could claw back some recent losses vs. the dollar as today’s statement is unlikely to entice further traders into these already crowded short positions.

It is worth remembering that in the next couple of days we should hear who the next Fed governor is. If we get any surprises then we could see a significant re-pricing of risky assets. We will look at this in more detail later this week.

Trump’s tax premium threatens sky-high stock markets

US stock markets made fresh record highs prior to the Fed statement, although they have backed off of these lofty levels as we have progressed through the day. The best performer in the S&P 500 was Estee Lauder, while Intel and Cisco are leading the way higher in the Dow.  Interestingly, Apple is the weakest performer on the Dow today, down some 1.5% as we await tomorrow’s earnings figures. This may also be a reaction to CEO Tim Cook who spoke to NBC news earlier and said that the US should reform the tax code now. Considering there is a push in Congress to stagger the corporation tax cut rather than slash it immediately to 20%, it is no wonder that traders are booking profits in Apple after the share price hit a fresh record earlier this week. Apple’s price movement today highlights a new risk that stock and indices traders need to be aware of: Trump’s tax premium. Any sign that the tax bill will be delayed or watered down could trigger a major pullback in global stocks and is one of the key risks to markets as we progress through Q4.

Bitcoin defies gravity and makes hay while the sun shines

Today’s jump to a fresh record high in Bitcoin above $6,500 is firstly a continued reaction to the CME announcing that it will offer Bitcoin futures, but it is also a reaction to the news of the day. Bitcoin is not controlled by capricious central banks or government administrations, and in this environment that is an attractive quality to have.