- The Fed is going to be the key driver in the coming days and central bank watchers are on high alert.
- There are bets being laid against a 50bps hike, and some investment banks see prospects of even a 100bps hike.
- Markets are being roiled by the prospects of a recession with the S&P 500 entering an official bear market.
Typically, during the Federal Reserve's blackout period, financial news agencies, such as the Wall Street Journal fill the void with opinion pieces such as the following:
''A string of troubling inflation reports in recent days is likely to lead Federal Reserve officials to consider surprising markets with a larger-than-expected 0.75-percentage-point interest rate increase at their meeting this week,'' a Wall Street Journal piece opened within an article that has been circulating throughout the start of the week.
''Before officials began their pre-meeting quiet period on June 4, they had signalled they were prepared to raise interest rates by a half percentage point this week and again at their meeting in July,'' the article continues. ''But they also had said their outlook depended on the economy evolving as they expected. Last week’s inflation report from the Labor Department showed a bigger jump in prices in May than officials had anticipated.''
As stated within the following article, EUR/USD bears plough through corrective territories and eye 1.0400 as traders lay odds of just a 50bp hike, ''the US Consumer Price Index increased a bigger-than-expected 8.6% last month, the largest year-on-year increase since December 1981, data showed on Friday, so investors hopeful that inflation has peaked were disappointed. This has left investors on alert that the Federal Reserve may tighten policy for too long and cause a sharp economic slowdown.''
This has led to recession fears which are tilting the US stock market into a confirmed bear market. US equities tumbled on Monday, with the S&P 500 on pace for its fourth straight decline. The benchmark index is more than 20% below its record closing high on Jan. 3 and such a drop would confirm the index is in a bear market, according to a commonly used definition.
Meanwhile, the US dollar index, DXY, which compares the greenback to a basket of rival currencies has ticked as high as 105.285, the highest level since December 2002 which has seen the euro to 1.0403 the low and the yen 135.20.
''Until evidence emerges that inflation is peaking and on a sustained downwards track, financial asset prices will remain under pressure,'' analysts at ANZ Bank argued.
A 75bps hike, is it possible?
In the prior euro article, it was reported that the analysts at Brown Brothers Harriman noted that some banks are raising their Fed calls for a 75 bp move, one for as early as this week.
Is it possible?
''Sure,'' the analysts say, but they think it's very unlikely as there is going to be a very high bar after the Fed already flagged 50 bp moves for June and July.''
Have things really worsened that much? They say ''not really.''
''Looking ahead, the swaps market is now pricing in a terminal rate near 4.0%, a new high and up from around 3.0% at the start of this month. This was the risk if inflation were to remain persistent and that's what we are seeing.''
''When all is said and done, we believe monetary policy divergences remain the dominant driver for FX. As the US economic outlook remains the best relative to its DM peers, the dollar uptrend remains intact,'' analysts at Brown Brothers Harriman argued.
Meanwhile, analysts at Rabobank said the expectation is Wednesday’s meeting will still be the pre-flagged 50bps move. ''However, we are starting to hear whispers of a 75bps hike, and this weekend saw the first suggestion of 100bps and the Fed opening the door to inter-meeting hikes of indeterminate size,'' they explained.
JP Morgan economists see the Fed hiking 75bps and Standard Charted predicts a 10% chance of a 100 bps hike.
However, the last two months of wage data have been showing signs of slowing, which could be a factor that persuades the Fed to stick to a 50bps tightening path.
Markets currently price 80% odds of a half-point increase and 20% odds for 75 basis points, (FEDBETS).
Meanwhile, taking the euro as a gauge of what is to come in the following sessions ahead of the FOMC, we are at a crossroads in forex:
EUR/USD technical analysis
The price is moving in to take out the 1.04 figure with 1.0399 bid seen at some brokers already. According to the above chart, there is still more to come if the price is going to even out the bid from the May 22 lows of 1.0348. However, an hourly correction is more than likely before a break of 1.0390 is seen as the price meets the point of control of the 12-16 May correction on the 4-hour chart as follows:
