Looking beyond tapering

At last it’s over, we have finally reached the date of the September FOMC meeting and the markets are pretty much taking it in their stride. Stocks are higher in Europe, the Spanish Ibex reached a 2 year high earlier today, and Treasury yields are muted after falling back from 2.85%. The market expectation is for the Fed to embark on a mild taper of $15 bn per month, scaling back on Treasuries more so than Mortgage Backed Securities (MBS). The outlying risks include: 1, if the Fed decides to stay its hand until later this year or 2, if it embarks on a more aggressive form of tapering, say $20-25 bn per month at this meeting.

Can the Fed nail forward guidance?

One thing that is expected is for the Fed to retain its dovish bias and try to shift the focus away from buying assets to prop up the economy and towards keeping rates low for a prolonged period. Another risk is that the Fed does embark on tapering at this meeting but reduces its unemployment rate threshold for raising interest rates to 6% from the current 6.5%, in order to signal to the markets that low rates are here to stay for some time, which could dampen the impact of rising yields and limit dollar gains.

Overall, highly anticipated meetings like this one often have a frustrating impact on the market: we get some whipsaw price action, but no major directional shift. What comes after the Fed is much more important for the future direction of markets.

Fed tapering and the Eurozone sovereign debt crisis

We may have seen the impact of Fed tapering on the Eurozone periphery at a Portuguese debt auction earlier this morning. Lisbon sold EUR 750 million of 2015 bills, there was fairly strong demand, but the average yield was at 2.29% versus 1.60% at an auction in June. The impact of Fed tapering and the rise in global bond yields have filtered through to make it more expensive for Europe’s struggling peripheries to borrow money. Thus, the price of stabilising Fed monetary policy could result in problems for Europe down the line.

In our opinion, this is not a problem for today, after all a yield of 2.29% is still manageable, but Europe’s public finances are still a mess and the situation remains fragile. Since the sovereign crisis has been intimately linked to rising borrowing costs, further upward pressure on yields could prove to be problematic for Brussels and may be the trigger of another flare up of sovereign concerns.

Not so dovish anymore – BOE minutes

Rising market based interest rates were also noted by the Bank of England at its meeting earlier this month, according to the minutes released today. The vote to keep interest rates and QE steady was 9-0. There was some expectation that a couple of members may have baulked at the prospect of 10-year Gilt yields at 3% back at the start of this month and voted for QE to try and dampen upward pressure on yields, hence when the 9-0 vote was unanimous, the pound spiked. GBPUSD is currently at fresh 9-month highs above 1.5970. 1.60 is looming like a cliff edge. It is an interesting level: firstly it is a key psychological level; second 1.6040 is a key resistance zone that could thwart the bulls. The rally in the pound has been ferocious, up 400 pips since the start of this month, thus some could be desperate to sell before it falls off the aforementioned cliff edge. Approaching a massive level combined with a Fed meeting could be enough to trigger some profit taking around 1.60. Whether or not this is a top for this pair will depend on the FOMC, a “dovish” Fed could be the green light the GBP bulls need to push towards 1.65 in the medium term.

The BOE minutes also brought up an interesting debate about the future trajectory of forward guidance. The Bank could not predict how strong the last few months’ worth of data would be before embarking on QE, but for forward guidance to work you need to be firm. Instead, the Bank has increased its expectations for growth and a few members have revised their views on the need for more QE, thus, the market is left wondering whether the bank actually thinks the UK economy can cope with higher interest rates?...

Epic Fail for the BOE: the UK now expected to hike rates before US

Expectations for an increase in UK rates have been pushed even further forward to January 2015, according to implied forward GBP swap rates, which is propping up the pound at these lofty levels. The UK is now expected to hike rates 2 months before the Fed, the BOE’s expectation in the August Inflation report was that it could keep rates low until Q3 2016. So if the BOE really does want to keep rates lower for longer than the next 15 months it has some work to do to push market expectations back, which could threaten the pound’s performance. Perhaps the BOE can get tips from the Fed if Bernanke can convince the market that tapering is most definitely not tightening.

Overall, we are at an inflection point in global monetary policy. Central banks know they need to scale back on their stimulus measures, yet they are only willing to put their tow in the water at this stage. The impact of this in the short-term is that the Sep-taper is not the volatile event some people expect it to be, however, it’s worth keeping an eye on peripheral bond yields.

Источник: Forex.com

18.09.2013