Currency and market analytics by Tickmill UK

[tickmill-news]

Gold Hits $1800 but Ultra-dovish Fed Suggests it isn’t the Limit
U.S. Senate unanimously voted on Tuesday to extend a key stimulus maneuver – Paycheck Protection Program. The goal of this program was to offer cheap loans for firms which want to save jobs. Initially it was expected that the program would be completed before the end of June, but Senate’s to extend it suggests that a wave of layoffs waits the economy without credit support. US stock markets welcomed the decision of the government to extend the program, SPX added 1.5%.

The program could account for some distortions in May NFP report since firms has strong incentive to delay layoffs or even boost hiring. The extension of the program means that the real trend in unemployment may be also masked in July.

Last week we discussed prospects of the Gold rally to $1800 level, which was successfully completed on Tuesday:

The price of gold has risen to the highest since 2012 amid falling real interest rate in the US and expectations that this trend will continue. This week, these expectations were fueled by a gloomy warning by the Fed’s Powell. Despite positive changes in eco data in May and June, Powell said that significant uncertainty continues to reign in the prospects for economic recovery.

Translating this into the language of concrete actions, the Fed may soon begin to target the yield curve – affect government bond market in such a way that the price of bonds of some maturity (medium to long-term) will fluctuate in a narrow band. In other words, control their yield. Decreased uncertainty about medium and long-term rates should boost lending for respective terms. Today we expect release of the Minutes of the past Fed meeting, which should shed light on intentions of the US central bank to further ease monetary policy, including targeting the yield curve.

In this regard, gold has a room for appreciation above $1800 because it becomes increasingly clear that the Fed will ease more depressing yields further.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

How Long will the Fed Keep Interest Rates low?
The minutes of the Fed meeting in June showed that officials want to give more certainty to investors about the path of interest rates. More specifically, the Central Bank is exploring the possibility of “tying” low interest rates to some goal, like achieving certain macroeconomic goal. For example, keep rates at current level until unemployment drops to 4%. This idea is not new and is similar to a pledge to keep rates low until inflation reaches some target, but we can say now that officials want to make a stronger statement.

For the US dollar, such Fed stance is clearly a downside risk, since by tying the policy to a macroeconomic event, the Fed loses opportunity to respond flexibly to the “unforeseen” accelerated recovery of economic activity (as it usually does). Of course, we have to take into account monetary policy of other central banks. Dollar decline will be more pronounced if other central banks choose to remain flexible and less categorical (i.e. less dovish) in their guidance for markets.

US crude oil stocks declined 7.1 million barrels, beating forecast of 0.71 million barrels, showed the latest report from the EIA. As oil prices continue to drift into profitable zone for US oil producers, they have more incentive to increase output, hence reduction of stocks could be achieved due to the outflow of oil from the inventories exceeding inflow. In other words, oil demand in the United States can be recovering faster than production, which is essential sign of expansion. Oil prices advanced by 1.5% on Thursday thanks to the positive EIA update and are likely to extend gains, pricing in expectations of more signals that the US economic recovery is gaining traction.

Sweeping reaction by the European government to prevent spillover from falling incomes on consumption seem to have been crowned with success: retail sales in Germany rose 3.8% in May against the forecast of -3.5%. Government countermeasures to retain jobs apparently were also successful – the number of unemployed increased by 69K in June, beating forecast of 120K.

Unexpected pickup activity of the manufacturing sector in the United States prompts us to revise outlook of recovery in manufacturing sector as well. ISM production PMI rose to 52.6 points in June, Markit PMI – to 49.8 points. Both indicators beat forecasts.

There was a little disappointment in the ADP jobs report, which estimated gain in jobs at 2.369 million with a forecast of 3 million new jobs. Government schemes to avoid layoffs in the form of cheap liquidity sources like PPP loans which helped to offset declining sales volume on demand for labor contributed significantly to the boost in employment in May.

All states in the US continued phasing out lockdowns in June, so it’s reasonable to expect that while this process continues, the number of jobs will increase. Given the available information about the quarantine removal process, even big surprise in jobs count may be discounted by investors, although markets may not be ready for a weak report. Payrolls are expected to show 3.5M gain in June.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

June NFP report: Returning Workers Back is one Thing, it’s Another Thing to Keep Them
So yesterday we saw another big surprise in the US macro data: June Payrolls jumped 4.8M (3.2M exp), unemployment fell to 11.1%. However, these two indicators do not reveal the whole picture. It should be borne in mind that 31.5 million people continue to receive benefits, and the number of employed is 15M lower than in February. In addition, as some states began to partially reinstate lockdowns, numbers in July may be worse.

The report did not make a serious impression on the market, as the states continued to remove lockdowns in June and this process naturally leads to reopening of firms and return of workers back to work. Therefore, it’s more correct to talk about restarting old jobs. However, returning workers to their workplaces is one thing, it is another thing to keep them with a reduced sales volume. Time will tell.

Even after strong job growth in June, employment in the US economy is still lower than the February level by 14.66 million. Extended unemployment benefits cover the income gap, but this scheme will be valid only until July 31, and it is unlikely that these 14.66 million will return to work by August. As a result, some shock of consumption is a time bomb for the US economy.

Unemployment fell from 13.3% to 11.1% but given that more than 31 million people continue to receive benefits, the official figure may underestimate the true number of unemployed.

The hotel industry and leisure made the largest contribution to payrolls (+2.088Mjobs), retail grew by 740K, education and healthcare added 568K jobs.

“Sticky” initial and continuing unemployment claims in the last week of June is also worrying development. Initial claims again increased more than forecast (1.425M with a forecast of 1.35M), continuing claims remained at 19.2M with a forecast of 19M, slightly higher compared to the previous week:

Homebase data indicates gradual increase in layoffs in small businesses. Some of them could take advantage of PPP loans (which the government basically agreed to forgive) and now, after they spent the money, they decided to start firing staff. According to the National Federation of Independent Enterprises, 14% of respondents said they used the loan, but they would have to start firing workers because demand has not recovered to the level before the coronacrisis. The data once again points to the importance of the wage protection program offered by the government in containing a wave of layoffs. It is obvious that state support is effectively delaying the onset of true fallout from the lockdowns and it’s really hard to predict how far in this direction the government can go.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

Big Surprise from ISM Data Stokes Inflation Concerns in the US
European markets trimmed Monday gains, USD recovered some lost ground after yesterday sell-off as the uncertainty remains high associated with the partial reinstation of lockdown in the United States.

The US service sector surprisingly improved in June. ISM business activity index in the services sector jumped from 41 to 66 points (49 points exp.). The leading component of new orders also advanced from 41.9 to 61.6 points, which bodes well for broad index of business activity in the next month.

Saudi Arabia once again raised the August selling prices for oil for most grades going to Asia, the US and Europe. which is seen as a signal of strengthening demand. The price of Arab Light for the Asian region rose by $1, which, however, turned out to be less than the market expected. It should also be noted that the differential between the benchmark and the price of Russian Urals in Europe continues to widen, which indicates an improvement in EU energy consumption outlook. Of course, OPEC is forced to seek trade-off between production cuts and price strategy, which will put pressure on the margin of refineries.

Today we expect release of the monthly short-term energy outlook from EIA in which the agency provides forecast for oil production in the United States. Given that oil prices are rising and some producers in the United States said they plan to increase production in response to this, it will be interesting to see how the EIA takes this information into account in its forecast. Last month, the EIA predicted an average rate of US oil production at 11.57 million bpd, 660K bpd. lower than a year earlier. Also, API weekly inventory data is expected today, which is likely to indicate further inventory decline, which should help WTI to move higher.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

Fed’s Bostic hints next leg of sharp M2 expansion may be around the corner, Gold breaks $1800
Gold futures climbed above $1800 level after one of the architects of the Fed’s current monetary stance, Rafael Bostik, made a less optimistic assessment of the US economic recovery than Fed Chairman Powell. Right in the midst of surprising economic updates in May and June, the head Atlanta’s Federal Reserve Bank said he sees signs that the recovery is moving into plateau. To save the room for maneuver in the future, he said that he hasn’t figured out whether it was just a pause or recovery in activity is changing regime.

But the most important statement, from the perspective of market impact, was the following:

“Given that possibility, to start thinking about what the next relief package should look like.”

As the latest examples of policy easing and fiscal stimulus have already shown, fiscal programs in 2020 are not only large in size but are also aggressive. In other words, the government is not just accumulating a lot of debt, but it is doing it intensively. This requires a so-called “coordination of monetary and fiscal policy” – increased supply of government bonds should be absorbed by the Fed to keep borrowing costs low. When the Fed buys Treasuries from private investors, this leads to an increase in money supply in the economy. A side effect of this process is suppression of market interest rates, the elimination of market price discovery (trading and investing turns into guessing a next Fed move), the flight of investors to the only class of assets that still have positive real yield – stocks. It is also known from macroeconomic theory that in the medium and long term, inflation path is almost solely determined by growth of money supply, so the signal from Bostic that M2 may start to rise again soon propels demand for assets which offer protection which is precisely gold:

As the latest examples of policy easing and fiscal stimulus have already shown, fiscal programs in 2020 are not only large in size but are also aggressive. In other words, the government is not just accumulating a lot of debt, but it is doing it intensively. This requires a so-called “coordination of monetary and fiscal policy” – increased supply of government bonds should be absorbed by the Fed to keep borrowing costs low. When the Fed buys Treasuries from private investors, this leads to an increase in money supply in the economy. A side effect of this process is suppression of market interest rates, the elimination of market price discovery (trading and investing turns into guessing a next Fed move), the flight of investors to the only class of assets that still have positive real yield – stocks. It is also known from macroeconomic theory that in the medium and long term, inflation path is almost solely determined by growth of money supply, so the signal from Bostic that M2 may start to rise again soon propels demand for assets which offer protection which is precisely gold:

If you look closely at the recent gold behavior, we can see domination of bullish forces with short corrective pullbacks. There are really no expectations of a bear market in gold because there are no expectations that the key contributing factor will change the sign – i.e. the Fed stance and its pledge to cooperate with government to help the Treasury market to weather increased supply. The bias of the government to borrow more in order to soften landing of the economy is huge now and it’s unlikely that we see a U-turn in the government’s fiscal policy.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

USD Index: Focus on Signals from the Fed and Congress
Exports and imports of Germany, the biggest economy of the EU, indicated an improvement in May compared with April. It is not a surprise since lockdowns in April reached their peak in the EU. In monthly terms, exports grew by 9%, after falling by 24% in April. However, compared with February volumes, exports are 26% lower. Imports increased slightly (+3.5%) which casts shady on sustainability of spike in consumption after lockdowns were lifted, since change in imports are a kind of forward-looking indicators and reflect expectations of future domestic demand.

The data is interesting in the sense that global trade indicators for May spoke in sync that foreign demand continued to stall. If you look at trade figures of Asian economies (which are also export-oriented), the situation there is similar – weak export growth or even MoM decline in May. The divergence of foreign with domestic demand which rebounded in May suggests that the growth in consumption is forced and probably unstable. It was achieved due to the use of “steroids” in the form of fiscal programs of the EU government, which has evolved from a long-term saver to a big spender.

However, combined policy of the Fed and US Congress is suppressing any attempts of USD buyers to seize the initiative. Therefore, in currency pairs with USD, including EURUSD it’s crucial to analyze expectations related to the Fed and US government. The government is clearly inclined to borrow more because of signals of deterioration in rising US economic activity and the Fed will likely to continue to “collect” government debt on its balance sheet, because there is no other way to generate demand that can replace the lost demand in consumption and investment. The negative picture of USD is also confirmed by technical developments:

From the beginning of June, the bearish trend turned into a correction, which ended with the development of a fairly symmetrical double top. Usually this is a trend reversal pattern, but sometimes it acts as a continuation pattern, which is possible in our case. A convenient moment for sales may be a return to the key support zone at 96.50. We can set a fairly attractive stop loss not higher than intermediate resistance at 97.00, with reasonable take profit target – the previous low at 95.50-95.60.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

US Labor Market on Steroids – How long will that last?
Market bears decided to find a pressing point of stock buyers before the weekend amid a release of worrying US employment data. In fact, the point of concern is quite unobvious, as it’s hiding behind the improvement of some “popular” indicators, but let’s try to figure it out what’s wrong.

US stocks closed in the red on Thursday, Friday trading shows that pressure remains, which can be seen in the modest sell-off of Asian and European equities as well as weak futures on US stocks.

Yesterday, attention of market participants was drawn to the piece of statistics released on every Thursday – initial and continuing claims for unemployment benefits. This data has gained particular significance after the US substantially expanded its income insurance program by introducing a variety of generous pandemic-related payments to unemployed. At the same time, the unemployed who are not in search of work also became eligible to receive payments, which created a situation where a good part of jobless is not captured by official unemployment measures. Consequently, the importance of alternative labor market metrics, which capture these “unreported” unemployed, has increased significantly.

The data this Thursday showed that the initial and continuing claims, in a positive sense, exceeded expectations:

• Initial claims – 1.314M, 1.375M expected.
• Continuing claims – 18.062M, 18.8M expected.

However, if we dig deeper, some disturbing underlying employment trends continue to unfold. For example, claims for all unemployment benefit programs, contrary to expectations, continued to increase and rose by 1.4M to 32.9M, highest on record. In the chart below, you can see how many people the BLS considers unemployed and how many people receive unemployment benefits – almost twice higher:

Using values of the gray curve, real unemployment should be now around 20% (compared to official 11.1% of the BLS)!

In the context of “awakening” pessimism in remarks of the Fed officials, such a dynamics of unemployment claims is quite expected. Recall that earlier this week the head of Atlanta Fed said that “there are signs” that recovery in economic activity starts to stifle and discussions about a new stimulus package are becoming more and more appropriate. One of the subtle signals that the government is working on this issue was the extension of the Paycheck Protection Program (that “non-repayable” paycheck loans) until August 8. Increased unemployment benefits expire at the end of this month and the growing dependence of consumer component of GDP on this program suggests that the government will be forced to extend them. Already according to the established, slightly ugly tradition, such a decision will probably only launch a new leg of rally in the US stock markets.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

Developing Trading Setup Before July ECB Meeting
The final amount of economic damage from Covid-19 will be probably known in the second quarter of 2020. I think it is necessary condition for the ECB to start to act. For now, wait-and-see stance is more appropriate for the ECB as two key tasks have been solved – the Central Bank stabilized financial markets and, in tandem with the EU government, spurred some highly uneven economic activity. Signs of recovery are well seen in the rebound in consumer inflation in the Eurozone (+ 0.3% in June, 0.1% in May), retail sales in Germany (+ 13.9% in May, forecast 3.9%), consumer confidence indices, which are gradually recover from the zone of depression. Developments in stalling exports sector, especially the state of German automakers, which even without the virus experienced a decline in export orders, are worrying. In this regard, the ECB policy should somehow solve the problem of competitive devaluation of the euro, which should smooth out the decrease in the revenue of exporters in national currency.

What can the ECB do for the euro? I think that after three rounds of bold stimulus, substantial increase of the limit and duration of the key policy tool – PEPP lending program, there are only open mouth operations left. The euro will not be convinced.

Recent data have shown that the Central Bank has no reason to expect some material changes in inflation picture. Although inflationary pressures have appeared in some parts of the economy (primarily in retail, due to support of consumption), in general, the conditions for slowing inflation prevail (rising unemployment, increased risk of default for companies, etc.). Therefore, from this point of view, the ECB has little incentive to tweak its policy.

The ECB is likely to maintain the status quo.

It follows that the likelihood of further weakening of USD against the euro is also high. Recall that USD has not yet fully priced in the risk of a new round of stimulus in the US, the need for which is rising due to moderation of the pace of economic recovery. We learned about this from the hints of several Fed officials. On Tuesday, data on consumer inflation in the US is expected, which will likely indicate a further slowdown, which should also contribute to further retreat of the US currency, as this increases the likelihood of intervention in the economy by the Central Bank and the US government.

Technical setup:

Taking into account market expectations regarding the ECB July meeting, which is likely to pass without threats to the euro, there is a high probability of a repeated test of intermediate resistance at the 1.1350 zone and subsequent test of June high in the 1.1400 area. In case of retracement to intermediate support in the zone 1.1260, it may also be worth considering more appealing longs with a target at the June pivot high

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

Is the EURUSD Poised to Gain More?
The dollar finally went into defense on Wednesday, the USD index broke through 96 points, the lowest since the start of June. Breaking down the index into components, it can be seen that the move was driven predominantly by strengthening of euro:

In the trade-weighted USD index euro has the biggest weight which also contributed to the magnitude of decline.

On Monday, we discussed a trading setup on EURUSD, I recommend that you carefully read my arguments why the common currency can easily discount July ECB meeting and why the long positions in the pair were (and most likely remain) justified.

The attention of the markets (including mine) was drawn by speeches of Fed’s “talking heads” yesterday. In short, officials continue to lament over “shrouded in a thick layer of fog” economic outlook while key stimulus programs expiring in a month. The head of the Federal Reserve Bank of St. Louis Bullard “expects” that Congress won’t stop halfway and approve at the end of this month a new “substantial” program to support firms and households. Depending on the size of the package, the Fed may need to step in with some asset-purchase program to prevent disruptions from the oversupply shock in the Treasury market. We know where that leads.

Of course, one can argue that the Fed and Congress should be constrained by inflation in their stimulus plans, however, Central Bank officials continue to insist that factors of strong disinflation have arisen and at work in the economy. Robert Kaplan cites the resulting excess of production capacities (the so-called overcapacity) as an argument. Let me explain what he means. When a consumption shock occurs, the demand curve quickly shifts to the left, which reduces the equilibrium prices in the economy (deflationary effect). However, the adjustment of the supply curve (reduction in production) takes longer (sometimes significantly), since the shock reveals excess capacity of manufacturers (+ oversupply of inventory) that cannot be quickly eliminated. This increases the time of adjustment. This leads to the situation where economy continues to produce more than can be sold and consumed for some time. And this is, of course, disinflationary.

As we see, Fed officials have both a desire and a sense of “impunity”, which is why new measures to support the economy are actively discussed, which have already shown how they can actively depreciate the dollar. Hence the market’s tendency to expect further weakening of the dollar, which, as we see, is gradually being realized. These expectations are also fueled by the deterioration of epidemiological situation in the United States, which objectively slows down the economy and dampens recovery, because individual states are careful in lifting lockdowns. The need for new stimulus and corresponding pressure on the US government is growing, which cannot be said, for example, about the EU, where the epidemic remains under control. This is an additional argument in favor of the strength of the euro against the dollar (i.e. underlying imbalance in stimulus expectations and recovery outlook).

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

EURUSD: Next Stop at 1.15?
EURUSD Analysis.

This week focus in the US earnings season shifts from banks to the tech sector, but stock markets remains relatively resilient to headwinds of various intensity, whether it be the smoldering US-Sino conflict or far more serious accelerating daily gain in Covid-19 cases. Nonetheless, market sentiment and demand for USD are sensitive to the data that shed light on how quickly economies recover. In this context, weekly data on US mortgage applications on Wednesday and production PMI on Friday will be of particular interest.

Markets will be also sensitive to news related to extension of the government’s coronavirus relief measures which are set to expire at the end of July. Without them, the US economy which showed signs of takeoff, will likely to experience quick loss of altitude and hard landing. The reason for this is that states reopening in the US clearly went wrong – due to accelerating increase in the new cases, states which represent 80% of the population, paused or began to return lockdowns:

In the chart above, it can be seen that as of June 24, the states, where more than 90% of the population live, in one way or another were lifting restrictions (width of the blue area is 90%). With acceleration of the incidence of Covid-19, the situation has changed dramatically – the states, which represent 40% of the US nation, have paused lifting lockdowns (gray zone), in the states where the other 40% live, restrictions are increasing (red zone). Of course, this setback increases odds that removing fiscal support will unwind all recent achievements in the labor market and especially in protection of consumer confidence. Democrats leading in polls ahead of the presidential election put Republicans in a less favorable position so they may be more inclined to make concessions to approve new stimulus bill.

EURUSD continues to move upward thanks to the progress in negotiations on the Eurozone Recovery Fund. If member states manage to agree, for the first time in the history of the EU, Eurozone bonds (mutualized debt) will be issued, which will become a source of financing for the stimulus project.

Expectations of the issuance of “palatable debt” are drawing investors in the euro, and the closer the negotiations are to success, the more EURUSD strengthening can be expected. Nevertheless, some EU leaders warned that despite the compromises made, the negotiations could fail.

The Eurozone consolidated debt topic sets the euro apart from other dollar peers and is likely to allow the pair to test the important 1.15 level this week:

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

Flip Side of Strong July Payrolls
The US economy created more than expected jobs in July, a report showed on Friday. Despite small positive deviation with consensus estimate it was a big surprise since several alternative data sources (Homebase data, ADP report) indicated the risk of downside surprise. The solid report had material impact on USD position, highlighting case for broad DXY consolidation, but it wasn’t a game-changer since the Fed made it clear major changes in policy should be expected in September. It is unlikely that positive July reading can prompt serious revisions in the track of recovery.

USD attempts to develop last week’s momentum on Monday, targeting the upper bound of the current range (92.50-94.00) buoyed by optimism related to positive expectations on retail sales report which is due on August 14.

Jobs count increased by 1.763M compared with consensus estimate of 1.48M while official unemployment rate declined to 10.2%. Wages grew by 4.8% YoY, but growth estimates are naturally skewed to the upside as proportion of high-skilled workers relative to low-skilled workers increased because of higher rate of layoffs among unqualified labor in this recession. Service sector posted predictably faster pace of recovery, adding 592 thousand jobs.

Despite declining official unemployment rate, the government continues to support an army of unemployed which is somewhat higher than official estimates. This can be seen from “alternative” unemployment benefits data. Although official estimate of unemployed is approximately 16M, about 13M people receive payments under PUA (Pandemic Unemployment Assistance), i.e. the number of people receiving unemployment benefits is more than 31M:

Excerpt from the latest report on unemployment benefits. Release date: August 6

In light of these figures, we can conjecture the negative side of strong July payrolls: Republicans and Democrats can now extend tug-of-war process in the negotiation of terms of the next fiscal deal thanks to easing pressure from improving incoming data. This extends duration of the dip in incomes since extended unemployment benefits program expired a week ago.

Having found support in the 92.50-92.60 zone, the dollar index entered a period of consolidation, which is likely to remain until the Republicans and Democrats agree on the terms of a new package of fiscal support for the economy.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

Flip Side of Strong July Payrolls
The US economy created more than expected jobs in July, a report showed on Friday. Despite small positive deviation with consensus estimate it was a big surprise since several alternative data sources (Homebase data, ADP report) indicated the risk of downside surprise. The solid report had material impact on USD position, highlighting case for broad DXY consolidation, but it wasn’t a game-changer since the Fed made it clear major changes in policy should be expected in September. It is unlikely that positive July reading can prompt serious revisions in the track of recovery.

USD attempts to develop last week’s momentum on Monday, targeting the upper bound of the current range (92.50-94.00) buoyed by optimism related to positive expectations on retail sales report which is due on August 14.

Jobs count increased by 1.763M compared with consensus estimate of 1.48M while official unemployment rate declined to 10.2%. Wages grew by 4.8% YoY, but growth estimates are naturally skewed to the upside as proportion of high-skilled workers relative to low-skilled workers increased because of higher rate of layoffs among unqualified labor in this recession. Service sector posted predictably faster pace of recovery, adding 592 thousand jobs.

Despite declining official unemployment rate, the government continues to support an army of unemployed which is somewhat higher than official estimates. This can be seen from “alternative” unemployment benefits data. Although official estimate of unemployed is approximately 16M, about 13M people receive payments under PUA (Pandemic Unemployment Assistance), i.e. the number of people receiving unemployment benefits is more than 31M:

Excerpt from the latest report on unemployment benefits. Release date: August 6

In light of these figures, we can conjecture the negative side of strong July payrolls: Republicans and Democrats can now extend tug-of-war process in the negotiation of terms of the next fiscal deal thanks to easing pressure from improving incoming data. This extends duration of the dip in incomes since extended unemployment benefits program expired a week ago.

Having found support in the 92.50-92.60 zone, the dollar index entered a period of consolidation, which is likely to remain until the Republicans and Democrats agree on the terms of a new package of fiscal support for the economy.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

Euro Demand Remains at 5-year High but Technical Picture Calls for Caution
The European currency posted record-high appeal among speculators for several years, showed the latest CFTC report. Net long speculative position rose to a 5-year high in the week ending Aug 4:

Extreme speculative bias calls for caution in assessing prospects of further Euro rise and played itself as a corrective factor:

Classic “double top” in the pair significantly slowed down the upward trend from a technical point of view, however, failed breakthrough of the trend line at 1.1710 level prevented early transfer of control to the sellers’ hands. Thus, the pair confirmed plans to remain in consolidation, probably until the terms of a new fiscal deal in the US are announced.

Expectations related to new round fiscal stimulus in the US offer solid support to the oil market. The European benchmark Brent rose 1.3% to nearly $45 per barrel. Drilling activity data from Baker Hughes released last Friday showed that rig count declined by 4 to 176 units, down nearly 75% from mid-March, hitting the lowest level since 2005.

This week we will have a lot of reports related to the oil market. These are API and EIA reports that are released on a weekly basis and are expected to show a decline by another 3.7 million barrels in commercial inventories. Today, the release of a short-term energy outlook by the EIA is expected, which will contain updated forecasts for growth of US oil output in 2020 and 2021. OPEC is to release its monthly report for July on Wednesday that will shed light on what was the cartel’s output in July and what dynamics of demand they expect in the coming months. On Thursday, monthly bulletin from the IEA is expected, in which the agency will assess the potential for market rebalancing in light of OPEC’s gradual lifting of production curbs.

An outcome of the US-China talks on Saturday, during which the parties will take stock of implementation of the first phase of the trade deal, may also have a positive effect on the markets. Despite a number of reports and measures pointing to escalating tensions between the two countries, the latest US export data indicated an increase in agricultural exports to China. In the week ending August 6, corn exports to China increased to 264 kt. There is a positive trend in the export of soybeans to China. USDA data showed that the share of quality crops in the United States increased compared to last year (from ~ 54% to ~ 70%). This is one of the market factors that China referred to when describing which suppliers would be preferred, which indicates a high likelihood of a positive outcome for the market from Saturday negotiations.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

Quick Reminder from the Fed that it is not Done with Stimulus
S&P 500 braces for renewing all-time peak deliberately ignoring three major factors of risk: uncertainty over fiscal deal in the US, Covid-19 data and US-China tensions.

The growth of US equities was fueled on Wednesday by the speech of Eric Rosengren, the head of the Federal Reserve Bank of Boston. In full accordance with opinion of his peers from the Fed, he delivered shock dose of bullish comments. Below are the most notable ones:

• Fiscal and monetary measures are now “critical” for the economy;
• Some signals that recovery moves to plateau;
• Not worried about inflation acceleration.

Looks like a call to get ready for a new leg of monetary easing. The first two comments address concerns about why more stimulus is needed while the third explains why it is still safe.

Note that Rosengren is traditional hawk – he tends to speak and vote for curtailing stimulus rather than increasing it. It is unusual to hear about stimulus from him and this fact lends more weight to his comments.

Data on Wednesday showed that core inflation rose 1.6% on an annualized basis:

The monthly growth in consumer prices also beat expectations – 0.6% against the forecast of 0.2%. This was hinted at by a surprise in PPI, which rose by 0.5% in monthly terms against the 0.1% forecast. However, the impulse in inflation, as in other indicators, is quite natural and reflects lifting of quarantine restrictions, i.e. there is a risk that it will soon fizzle out with recovery getting in plateau phase. Therefore, markets’ response on the release of positive data was muted.

The EURUSD pair climbed above the 1.18 level, but the gain was mainly driven by USD weakness. The euro could lag behind its G10 counterparts if US-EU relations begin to escalate again, which might be suspected from an escalating tariff war. USTR has introduced tariffs on German and French goods that are linked to EU subsidies to Airbus.

As for the GBP, the baseline scenario for the end of this week is consolidation above 1.30 level, as a number of positive UK macro data released this week strengthened position of GBP. USD remains weak and the key driver for rally of the pair is trade negotiations with the EU, which are now on pause.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

Gold: All Signs of a Profit-booking Move
Since mid-July, bullish bets on Gold started to resemble mania or hasty shift to safe haven in anticipation of some disaster. The rally seemed well-founded, but more recently, an irrational buying spree was also felt. For example, from July 17 to August 6, only one daily candle was down and the past high from 2013 (~ $ 1920) was overcome relatively easily.

Gold crossing through $2000 level at ease created impression that it targets $2,500, $3,000 and even $ 4,000 per troy ounce. Bearing that in mind, it was difficult to trade countertrend. For the same reason, it was difficult to estimate the level from which correction would begin. Now, after the pullback has occurred, we have the opportunity to discuss whether it is an interim correction or the signal of global U-turn which in my view is a better trading opportunity.

Among potential factors explaining 5% downside move in gold was a surge in Treasury yields (direct rivals of Gold in investment portfolios), increased optimism related to the development of Covid-19 vaccine, economic news, new details on the US fiscal deal, etc. Let’s go through the points.

The yield on 10-year bonds hit 0.5% on August 6, from which it began to rise and reached 0.67% on Wednesday. Around the same moment, the decline in gold began which suggests that gold’s decline is related to Treasuries’ move. However, as we can see from recent history, there were larger in amplitude fluctuations in treasury yields which caused smaller decline in gold:

It is fair to say that the liquidation of gold positions in March was also exacerbated by liquidity crunch. But if we consider June spike in yields which is larger than current one, gold’s reaction was relatively muted.

We can look at the connection between gold and the Treasury market from a slightly different angle. Gold has high correlation with TIPS (inflation-indexed Treasury bonds) – both are hedges against inflation, only for different time horizons. So, if we assume that some shift in inflation expectations was a factor in the correction, then TIPS should have corrected as well – however, the move in TIPS yield was much weaker:

It turns out that with such a sluggish move in the “peer” asset, the fall in gold can be explained either by the fact that mainly long-term inflation expectations were sharply revised or a shift in inflationary expectations was not the main explanatory factor.

There are absolutely no signs of U-turn in Fed’s accommodative policy, since the Central Bank made it clear that until 2022 there won’t be any steps towards normalization (famous “we don’t even think about thinking of raising rates”) and if there will be changes, then only in the direction of further policy easing & balance sheet expansion.

On August 7, the NFP was released, which posted modest surprise in jobs count however, the effect of the report on the market quickly fizzled out. It’s unlikely that jobs report could cause some profound shift in expectations.

As a result, one likely explanation of the sharp decline in gold is a technical correction (profit taking move) which, taking into account gold’s position at historical peak, turned into avalanche of sales, exacerbated by momentum selling from algos. Fundamentally, expectations for Gold remain the same, since as we can see, key factors of the rally remain in place.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

US Retail Sales and U. Michigan Consumer Data may Drive USD lower
Commodity markets started Friday on a weaker footing. There is a noticeable tilt to the downside in silver as high volatility should persist after falling almost 16% on Tuesday. Gold futures are also under slight pressure, but buying interest is expected to remain strong. Sales in commodity markets are occurring despite USD scratching intention to move out of the range, testing resistance near 94 level on Wednesday, as there were no strong disturbances in the news background on the night from Thursday to Friday.

It is important to point out that the risk of failure of US fiscal deal looms on the horizon although it is still low. Despite that there is perception that markets may be greatly unprepared to that outcome. Although the news background is full of reports that talks are under way, it has been two weeks since the expiration of major federal aid programs, and there are still no concrete details.

The data on claims for unemployment benefits indicated a sharp decline in the inflow of unemployed – minus 263K compared to the previous week. This is a direct consequence of the cut in weekly unemployment payments from $600 to $200 per week, which made unemployment so “unpopular”.

The data on industrial production in China indicated continuing struggle – YoY rebound in July came at 4.8% against the forecast of 5.1%. This is the “Chinese signal” that the recovery is slowing down. Retail sales continued their slide which is even more frustrating since lots of hope is pinned to its rebound. Retail sales decreased by 1.1% YoY in July. Weak data on the largest Asian economy has sobered the markets today.

Another piece of highly important economic release is the US July retail sales. They are important because fiscal negotiations are likely to be sensitive to the data clarifying recovery path. The data on job creation and unemployment rate released last week signaled that fiscal&post-lockdown economic impetus in the US was likely extended to July. Retail sales are expected to confirm this assumption. In my view, retail sales below consensus will strengthen market risk-on and press USD lower as strong confirmation of fading upturn will increase pressure on Republicans and Democrats and help to find a middle ground faster. At the same time, positive surprise will allow the process to be delayed further. However, the odds of a negative deviation in the retail sales report, in my opinion, is somewhat less than 50%.

The report on consumer confidence and inflation expectations from U. Michigan can hit US Dollar.

Why the data is on the market radar? The point is that if the report indicates an acceleration of inflation expectations above 3.0%, given the Fed’s stance, which does not even think about raising rates, real yields in the US will again be under pressure. For stocks, this will mean more upside, sales for USD and, of course, renewed interest for gold.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

Positive Eco Data Extends State of Suspense
It’s a relatively calm Monday for the FX market. Yield on 10-year T-Note which caught the markets’ attention last week saw reduced pressure on Monday, trimming gains. Treasuries were under great pressure last week causing yields to rise from 0.5% to 0.7%, the highest level since the end of June. Gold exhibited some weakness last week as well but saw renewed interest on Monday, rising half a percent.

The context of the new trading week, namely continued state of suspense, has been determined to some extent by positive US reports released last Friday. US consumer spending continued to rise strongly in July, showed July retail sales report. Sales exceeded the level of February, the last “healthy” month before coronacrisis hit world economy. Consumer sentiment also remained consistently high.

However, this is not good enough. It is clear that both Republicans and Democrats have a goal of maximizing political gain from the new round of fiscal aid ahead of the elections. This goal ensures long negotiations and intense search of trade-offs. It is the positive data on the US economy that allows negotiators to gain precious time and necessary economic stability. The latter does not allow politicians to be accused of inaction, since the data continues to indicate an ongoing recovery.

On a monthly basis, retail sales rose 1.2% in July against the forecasted 2.1%. Monthly growth in June was revised upwards from 7.5% to 8.4%. In monetary terms, the volume of sales in July exceeded the level of February by 1.6%, i.e. climbed out of the crisis pit. Sales in the “control group” of goods (which excludes goods with volatile prices, allows better identification of consumer trends by excluding goods with low elasticity of income), rose 1.4%. This is more than the 0.8% forecast.

However, there is hardening perception that next phase of recovery will be full of pain without proper action. Consumer confidence began to decline in July which is in line with stalling recovery in consumer spending which hit a plateau. In early August, consumer spending began to decline, clearly reflecting the end of the income insurance program

Source:tracktherecovery.org

There are also more solid signals of slowing recovery. Shifts in oil’s futures curve hints that world stockpiles are not declining as quickly as we would like. The difference in price (spread) between the nearest contract and the contract of the next month reached 50 cents a barrel, the highest level since May. Recall that we had a deep contango (i.e. widening positive timespreads) in May which was associated with surplus of reserves. As we see that spreads started to widen again this indicates that oil demand is not recovering as quickly as previously thought. This was also reflected in the IEA and OPEC reports released last week, according to which the agencies revised down their forecasts for oil demand for 2020 and 2021. With the rise in prices, US oil production is growing which is reflected in the latest US data.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

USD: Extreme Shorts are not the Reason for U-turn
The main trading theme in the FX market on Tuesday became the wake-up of dormant USD sell-off, which was a foreseeable development due to the presence of medium to long-term bearish USD macro factors. The only question was when the downward trend would resume. As it turned out, the pause in talks on new fiscal package failed to support greenback.

Basically, when we talk about fresh round of fiscal support, less uncertainty in negotiations on the new fiscal deal also means less uncertainty in the plans of government borrowing, i.e. growth of supply on the Treasuries market and possibly money supply (if the Fed resumes purchases to absorb the supply). For now, it seems that the risk of negotiations put on hold would increase uncertainty about bond supply and cause steeper pullback in T-bonds seems premature.

Accordingly, contrary to my expectations, short positions in Gold were routed earlier and the precious metal went into offensive. Demand returned to the Treasuries market as well. The 10-year Treasury yield appears to have completed its pullback from the last week (after hitting key support at 0.5%) and the trend resumption seems to be finding support and appeal among investors. This allows us to assume that the momentum in assets-safe heavens may be extended to the rest of this week. The rise in risk-free assets, coupled with lull in the stock market (i.e. risky assets), means that roots of the current trend are in the expectations for a new round of borrowing of the US government and corresponding expansionary policy of the Fed.

The CFTC data on USD from August 11 (the latest report) showed that bearish sentiment on USD is one the rise despite extreme positioning. On the contrary, the main opponent, the euro, saw increasing long positions. The net speculative positioning in euro reached 28% of open interest, which is slightly below the previous peak of 30%, which was observed in April 2018. EURUSD was 1.24-1.25 back then, but then turned into a nosedive, which lasted until March of this year.

Weighted by G-10 currencies, the net position on USD declined to -15% of open interest, below October 2017 and is moving to the lows of 2012-2013:

So, from historical perspective USD is significantly oversold, but now, as we understand, there are completely different expectations for the path of expansion of the money supply in the US, therefore, it will hardly be possible to break the trend due to the presence of some extreme positioning.

USD positions were also shaken by mortgage and manufacturing data from the US, released earlier. Negative surprises prepare for a weak August and possible Fed interventions in the fall.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

US Fiscal Talks Steer Towards Frugality Risking to cap T-bond Gains
So, here we go. Some Democrats and GOP members are no longer convinced that the economy needs a large fiscal aid package, a senior White House official told Reuters on Tuesday.

According to the official, there are signs of growing bipartisan bias towards frugality, both in the House of Representatives and in Congress, when it comes to discussing the size of the aid. It can be now reduced to $500 billion which is at least twice less than discussed before. The way how the government will spend may be less stimulating in terms of consumer spending boost since the funds are expected to be directed to financing US Postal Service and payroll loans for small and medium-sized businesses. It means that stimulus checks and extended unemployment benefits, which significantly spurred consumer spending in May-July, may not be included in the new package.

As we discussed earlier, stalling progress in fiscal talks increase the risk of markets being wrong in pricing in the final size and timing of the deal. With new details from the US administration official, the likelihood of this outcome increased.

Why should investors be bothered about that? Let’s explore the chain of the effects.

Firstly, size of the fiscal package has a direct bearing on how much the government would need to borrow. It is clear that more spending means more borrowing and vice versa. The level and intensity of borrowing will determine the flow of a large portion of bond supply to the Treasury market and it is not known whether the market will be able to absorb it without the help of the Fed.

Therefore, bond-buying plans of the Fed may depend on how actively the government would need to tap the Treasury market. Open market operations of the Fed have direct impact on the flow of liquidity in the banking system (bank reserves) and increase of money stock. Expectations of aggressive bond-buying (in case of large fiscal package) may ignite concerns about expansionary monetary policy what means rising pressure on real yield as well as supply of USD which have direct implications for risk assets (bonds vs. stocks story) and USD exchange rate (greenback supply/demand story).

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 76% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

[tickmill-news]

Fed’s “Revision of monetary policy strategy” – what is this?
The biggest piece of market moving data released on Wednesday was the Minutes of the July Fed meeting, which included some surprising points. For example, committee members were concerned about the side effects of yield curve targeting, thus significantly reducing probability that the Fed starts to control medium and long-term rates in September. Equity sell-off and some gains in USD that we saw on Wednesday are basically revision of the odds of this outcome towards zero.

According to the Minutes, FOMC members felt it necessary to provide more clarity on the path of Federal Funds rate. Of course, this is a reference to the so-called “Revision of monetary policy strategy”, which the Fed has been talking about for several months. As part of the current strategy, the Fed communicates its intentions in such a way that it retains some degree of uncertainty. If we think about underlying principles of this strategy, we can draw some interesting conclusions about propagation of policy changes in markets and economy.

Suppose the Fed, based on all available information about the current and future state of economy, decides that it makes sense to raise interest rate at the next meeting. At the same time, it communicates this intention to the public at the current meeting. Clearly, market players will price in the future hike immediately possibly causing divergence of the markets (and economy) from the state expected by the Fed during the next meeting. At the time when the Fed actually hikes the rate, it affects the economy which may be in completely different state and impact of the rate hike may be completely different from expectations of the Fed. In other words, “full openness” policy leads to systematic bias in the Fed expectations about the impact from policy decisions. It seems that the Fed needs to “systematically mislead market participants” but do it smartly to make policy changes effective in boosting output and make correct expectations about the impact of its decisions.

However, due to lack of success of the current policy framework in stimulating inflation, the Fed wants to revise its policy in such a way as to tie its decisions to specific economic outcomes – raising inflation to n%, lowering unemployment to t%, or upon reaching some combination of inflation and unemployment. … In other words, markets can be confident that policy changes will not occur, at least until the economic outcome is realized. In this case, the Fed will still retain uncertainty in its decisions but only after the economic parameters reach some predetermined values.

Lack of enthusiasm in the plans for YCC disappointed the markets a little since after the last meeting and bearish comments from the officials the markets had been actively pricing in this outcome in September.