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The Fed convenes for the first time after QE ended and for the last time this year. This meeting consists of updated forecasts and a press conference.

The focus is on the wording regarding the rate hike: will the Fed remove the “considerable time” phrase and pave the way for a rate hike?  It depends on which mandate the Fed focuses on: inflation or employment. Here is the reasoning and the preferred currencies to trade on in either case:

News:  

More:  Join a live coverage of the Fed decision from 18:45 GMT

  • Employment: Recent figures coming out of the US have been great: job gains have been well over 200K, with the last report  for November showing a superb 321K gain. The unemployment rate is at  5.8% and underemployment is falling. Even wages finally picked up in the recent report. Also the Fed’s favorite JOLTs job openings number is hovering around levels last seen early in the previous decade and the number of  voluntary quits points to confidence in the labor market. If  the job market is hot and wages are  rising, the Fed may already be  behind the curve and perhaps should have acted on  rates
  • Inflation: We will get fresh inflation figures later on, but perhaps they are not that relevant: the fall in oil prices may be good for the consumer but  the fall in prices could have secondary effects, pushing other prices lower. Perhaps more importantly for the Fed, inflation expectations and the “5y/5y  break evens” are falling quite sharply. Without a danger of inflation in the medium term, why should the fact move on rates?

This is the big  dilemma that faces Janet Yellen and company today. It can really go either way. Nothing is  fully priced in. What we can do is focus on which currencies to trade on in either case

  • In case of a hawkish statement: the dollar is set to rise and the most vulnerable currency is the Australian dollar. The Aussie is vulnerable to Chinese weakness and the central bank over there wants a lower value, as low as 0.75. In case of a very hawkish statement from Yellen, USD is set to strengthen across the board with AUD being the most vulnerable one.
  • In case of a dovish statement: the dollar is set to fall and the best positioned currency could be the British pound. Rates are also set to rise in the UK during 2015, and it could happen before the Fed. Cable has suffered quite a bit and might be ready to rise. Also NZD, with the central bank’s hawkish bias, has a nice potential in this case.

Other  moves could be more limited. For instance, the yen acts again as a safe haven currency, so a hawkish Fed would have a limited negative impact for the dollar against the yen a dovish Fed would benefit riskier currencies. Another example is Canada: the nation needs a strong US, so an upbeat statement isn’t likely to hit the loonie too much while a worried one will not help the loonie too much.

What about the euro? In general, there is room for the downside in the euro, but the  sentiment this week is relatively balanced: the pair could react in an expected yet limited manner to the Fed.

More:  5 reasons for the surge of EUR/USD