Fed In Focus
The main focus for markets today, and for this week overall, is the July FOMC meeting which concludes tonight. There has been a great deal of attention on the Fed recently given the constant tug of war between itself and the market over inflation expectations and tightening expectations. Rising vaccination and reopening optimism is fuelling a lift in inflation expectations, which is being endorsed by better data reflecting the ongoing strength of the economic recovery. However, despite growing market speculation around potential Fed tapering, the Fed has continued to push back, warning that any lift in inflation will prove to be transitory and therefore wont require a shift in policy.
Tapering Talk Starts
Of late, however, there has been some movement within this position. Several Fed members have noted that the need for, at least discussing, tapering has now arisen. The latest FOMC minutes saw the Fed introduce the subject of tapering with some members advising that they felt there was a risk in leaving it too long, given the current trajectory in inflation. This shift in discussion has been accompanied by an upward revision to the Fed’s dot plot forecast with 13 members now seeing a rate hike as early as 2023, up from 7 previously.
Powell Still Pushing Back
Despite a growing call among some members to bring forward tapering of QE, there is still a great deal of division, however. Notably, Fed’s Powell along with other key policymakers such as Williams and Clarida saying that it is still too soon for tapering. However, with data having improved sharply over the last month (inflation, employment, retail sales, GDP), there is a risk that today’s meeting takes a more hawkish shift.
Don’t Expect Too Much
Given the Fed’s commitment to pushing back against market expectations, we are unlikely to get much in the way of a signal (certainly no timelines). However, the market will be looking out for more constructive language around the economy and the balance of risks, which would pave the way for tapering in the near future. Alternatively, if the Fed chooses to downplay upside risks and instead focus on the residual risks around the pandemic, this might frustrate USD bulls, fuelling some short term USD unwinding.
The sell off in AUDUSD, framed by the bearish trend line from YTD highs, is threatening to take a further leg lower here, following the brief recovery above the .7339 level. If USD pops higher on the back of the FOMC, look for a break of .7339 to target .7243 initially. MACD and RSI have flattened out recently so there is plenty of room for fresh momentum here on a break.