Mixed economic signals stay as deterrent!
No doubt, America is the best amongst the West! The economy exhibits signs of getting out of the woods. There are signs of pick-up in growth, supported by downtrend in unemployment rate, uptrend in wages, improvement in household consumption against low inflation. All these trends should provide the FED much needed bandwidth to set the time for start of rate-hike cycle, keeping the quantum of hike open subject to sustainability of favourable trend in target macroeconomic factors. The need is also to quickly get into rate-hike mode, last done in 2006 to build ammunition if the economy falters on the way ahead. So, the doubt is on the permanence of the rate-hike cycle. Will it get into extended pause after 50 bps hike in 2015? Will it be a regular time-bound hike over 50 bps beyond 2015? Will the hike be temporary, only to be reversed if the growth pick-up falters in 2016? Given the lack of long term clarity, it is good to focus on the short term preparing for 50 bps hike between September to December 2015.
Divided opinion on FED monetary stance
The expectation from FOMC is not unanimous - most see the time is not quite right to start rate-hike cycle in 2015, while some take comfort from improvement in the economy to bite the bullet now. While a dovish guidance is good for financial markets, FED may need to deal with rising US Dollar from hawkish tone, which would hurt US exports to add pressure on the top-line economy. All taken, markets stay mixed and volatile from the possible outcome. US 10Y yield is already up from 1.85-2.10% consolidation to 2.10-2.60% (and now around mid-point) and USD index DXY is in back-and-forth at 93-98 (EUR/USD at 1.0650/1.08-1.1350/1.15). It is a tough call on the FED to take a firm view on the monetary policy stance against mixed and conflicting cues in play!
Best is a balancing act around neutral stance seeking more clarity
Given the lack of defence for either a dovish stance or hawkish approach, it is better to stay neutral now deferring the decision to the next FOMC. This will provide post-FOMC price stability in US 10Y at 2.10-2.35%, DXY at 93-96 (EUR/USD at 1.10-1.15) and DJIA at 18000-18500. This will also give time to ECB to deal with woes around Grexit, when economic turnaround is taking shape.
It is best to set the timeline of rate-hike between September to December 2015, and be neutral (and data dependent) on whether it will front loaded or rear ended!
Hope FOMC goes non-event!
Moses Harding
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