investment research general market conditions fomc preview · 2015-10-26 · important disclosures...
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Important disclosures and certifications are contained from page 8 of this report. www.danskeresearch.com
Investment Research — General Market Conditions
The FOMC meeting this week is unlikely to provide us with much new
information. We expect to receive a statement but no updated projections or
press conference. Along with consensus, we expect no change in policy at the
meeting.
We believe the Fed wants to keep all doors open at this point and will try to
signal that a December rate hike is an option but by no means given. If markets
keep still after the statement, we think the Fed can declare its mission
accomplished.
The tone on recent economic developments is likely to be more downbeat than in
September but global economic and financial developments should have become
less of a risk.
In our view, the forward-looking part of the statement is likely to be kept
broadly unchanged, as the Fed awaits more data before changing its view on the
outlook.
All doors likely to be kept open
Recent Fed comments have underlined the divergence in views on monetary policy within
the FOMC. In particular, the two board members Lael Brainard and Daniel Tarullo
delivered dovish comments in their speeches two weeks ago, suggesting they did not see
a rate hike coming before next year. On the other hand, vice Chair Stanley Fischer and
Janet Yellen herself reiterated this month that they think a rate hike later this year is
appropriate contingent on economic developments. On top of this, the minutes from the
Board of Governors’ discount rate meetings revealed that eight out of the 121 regional
Fed banks advocated an increase in the discount rate at the September FOMC meeting – a
signal that they would favour an increase in the fed funds rate as well. However, this
request was not met by the Fed Board.
This shows the current divergence within the FOMC and we believe that more data is
needed before consensus can move in either direction. Thus, we do not expect any change
in policy and the intention for the October FOMC statement is in our view to keep the
door open for a December rate hike but to signal that it is by no means a done deal. We
think this is best done by making only minor changes to the forward-looking part of the
statement. We expect Jeffrey Lacker to dissent again this week and advocate a rate hike.
The key phrases to watch are, first, the description of ‘global economic and financial
developments’, which in September were described as something that might restrain
economic activity.
1 The Federal Reserve banks of Philadelphia, St Louis, Cleveland, Richmond, Atlanta, Kansas City, Dallas and San Francisco voted for a 25bp increase in the discount rate, while Minneapolis voted for a 25bp decrease and Boston, New York and Chicago voted for an unchanged rate. See the hawk-dove overview below.
26 October 2015
Senior Analyst Signe Roed-Frederiksen +45 45128229 [email protected]
FOMC Preview
Still waiting for the green light
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Given the recent improvement in these, including the risk rally following the ECB’s pre-
announcement of further easing at the December meeting, this phrase is likely to be
changed in a more positive direction. Second, is that ‘some further improvement in the
labour market’ and ‘reasonable confidence that inflation will move back towards 2% over
the medium term’ still what is needed for the Fed to increase rates? We think so but any
changes to this sentence will be crucial for the market’s interpretation of the statement.
How the Fed chooses to describe the latest economic developments, in particular the
labour market will also be important. Given the recent slowdown in job growth and
continued lack of rising wage inflation, the wording on the labour market in the first
paragraph of the statement is likely to be somewhat more downbeat than in September.
On the other hand, the overall description of economic activity is likely to stay unchanged
i.e. ‘expanding at a moderate pace’.
Market implications
The Fed is likely to deem its communication at the October meeting a success if markets
stay broadly unchanged following the release. Whether it will succeed in this is up to the
exact wording in the statement. Currently, markets attach a 36% probability of a
December rate hike and a 75% probability of a March rate hike. In our view, this is fair as
the current mix of economic data does not send convincing signals about the economic
outlook. A more downbeat description of the labour market could push the pricing of fed
rate hikes in a slightly more dovish direction but the move is likely to be fairly muted,
particularly if the FOMC changes itsr tone on global risks in a less worried direction.
Outlook
We continue to believe that the first fed funds rate hike will come at either the January or
March FOMC meeting next year, with the highest odds on a January move. The
combined soft tone from the ECB on Thursday (see Flash Comment: ECB to cut the
deposit rate further, 22 October), followed by easing from the Chinese central bank on
Friday and possible policy easing from the Bank of Japan and Swedish Riksbank this
week, means the trade weighted US dollar has gained 2% over the past one and a half
weeks. While on the margin this has tightened financial conditions, the rally in risky
assets has largely offset this move. What is left is the positive demand boost from easier
monetary policy and diminishing risks of an even more severe global growth slowdown.
Hence, we believe that this latest round of policy easing is welcomed by the FOMC.
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FOMC hawk-ometer
Hawk-dove overview
Source: Federal Reserve, Danske Bank Markets
2014 2015 2016
HAWKISH Plosser Harker Harker Philadelphia
R.Fisher Kaplan Kaplan Dallas
George George George Kansas city
Lacker Lacker Lacker Richmond
Mester Mester Mester Cleveland
Bullard Bullard Bullard St. Louis
Lockhart Lockhart Lockhart Atlanta
Vacant* Landon Landon Board
NEUTRAL Vacant* Vacant* Vacant* Board
Williams Williams Williams San Francisco
Powell (B) Powell (B) Powell (B) Board
S. Fischer (B) S. Fischer (B) S. Fischer (B) Board
Tarullo (B) Tarullo (B) Tarullo (B) Board
Yellen (B) Yellen (B) Yellen (B) Chairman
Brainard (B) Brainard (B) Brainard (B) Board
Dudley Dudley Dudley New York, Vice Chairman
Evans Evans Evans Chicago
Rosengren Rosengren Rosengren Boston
Kocherlakota Kocherlakota ? Minneapolis
DOVISH
Bold signifies voting right (B) Signifies Board member
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FOMC chart book
Continued solid labour market progress – stronger than June 2004 (start of previous hiking cycle) on most measures
Note: The diagram shows the level of tightness of different US labour market key figures at different times, compared with the level of the same figures in June 2004
(index=100). Counter cyclical figures (unemployment rate, jobless claims, marginally attached and work part time for economic reasons) are inverted; thus, the higher
index (the further from the middle) the better (tighter) is the state of the labour market
JOLTS data for December is an average of October and November data.
Source: BLS (JOLTS), Macrobond Financial
Fed funds rate expectations fell after September FOMC
meeting and the payrolls report
Effective USD has strengthened over past two weeks
Note: Dark (light) shading indicates periods of tightening (easing)
Source: Federal Reserve, Danske Bank Markets
Source: Federal Reserve, Bloomberg, Danske Bank Markets
Payroll employment
Job openings
Hires
Hiring plans
Job availability
Quits
UnemploymentMarginally attached
Part time for economic reason
Job f inding
Initial claims
Unable to f ill job openings
Temporary help services employment
June 2004 September 2015
Leading indicatorsEmployer behavior
Utilization (slack)
Confidence
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Core inflation is running below Fed’s comfort zone... ...and no clear trend
Note: Dark (light) shading indicates periods of tightening (easing)
Source: BEA, Danske Bank Markets
Source: BEA, Danske Bank Markets
High unit labour costs are producing some inflation pressure Inflation expectations have fallen
Note: Dark (light) shading indicates periods of tightening (easing)
Source: Federal Reserve of Philadelphia, Macrobond Financial, University of
Michigan, Danske Bank Markets
Source: Federal Reserve of Philadelphia, Macrobond Financial, University of
Michigan, Danske Bank Markets
Job growth has slowed in past two months Unemployment rate continues to drift lower
Note: Dark (light) shading indicates periods of tightening (easing)
Source: BLS, Danske Bank Markets
Note: Dark (light) shading indicates periods of tightening (easing)
Source: BLS, Danske Bank Markets
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Unemployment gap (actual – NAIRU) has closed... ...but wage inflation remains subdued
Note: Dark (light) shading indicates periods of tightening (easing)
Source: BLS, CBO, Danske Bank Markets
Note: Dark (light) shading indicates periods of tightening (easing)
Source: BLS, Danske Bank Markets
Divergence between manufacturing and service sector Consumer confidence has come off the highs but stays solid
Note: Dark (light) shading indicates periods of tightening (easing)
Source: ISM, Danske Bank Markets
Note: Dark (light) shading indicates periods of tightening (easing)
Source: University of Michigan, Conference Board, Danske Markets
Personal spending has shown strong growth... ...supported by healthy real income gains
Note: Dark (light) shading indicates periods of tightening (easing)
Source: BEA, Federal Reserve of St Louis, Danske Bank Markets
Source: BEA, Federal Reserve of St Louis, Danske Bank Markets
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House prices moving higher and sales pace have picked up Corporate funding costs have risen on wider credit spread
Source: NAR, U.S. Census Bureau, Danske Bank Markets Source: Moody’s, MBA, Federal Reserve, Eurostat, Danske Bank Markets
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Disclosures This research report has been prepared by Danske Bank Markets, a division of Danske Bank A/S (‘Danske
Bank’). The author of the research report is Signe Roed-Frederiksen, Senior Analyst.
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