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The following article is based on research by Marshall Gittler, Head of Investment Research for FXPRIMUS.
FXPRIMUS Week in Focus week of 19 Sep: BoJ, FOMC, RBNZ, PMIs
It’s a week like a fireman’s life: days of boredom interspersed with moments of extreme excitement. There’s not much on the schedule except for Wednesday, when there are two crucial events: the Bank of Japan (BoJ) and the US Fed meet to set rates. Plus later in the day, the Reserve Bank of New Zealand meets too (Thursday morning NZ time). The other point of interest will be the preliminary purchasing managers’ indices (PMIs) for the Eurozone and US on Friday. It’s not much, but it should be enough to ensure plenty of volatility.
The BoJ will be the first of the central bank meetings. The market still expects the BoJ to cut rates two or three more times over the next two years.
The details of what the BoJ might do were extensively leaked to the Japanese press last week. Apparently they will try to steepen the Japanese government bond (JGB) yield curve by adjusting their bond purchases; cut interest rates further into negative territory; and add some new forward guidance.
These moves should in theory weaken the yen. There’s only one problem: they’ve been so well advertised that it’s hard to know how the market will react. For example, the yield curve has already steepened, so if the measures don’t go beyond what was leaked, there could be a “buy the rumor, sell the fact” response.
There’s also the chance that the BoJ might decide to do nothing. Given that the Fed meets just a few hours later, they could decide just to wait and see at this meeting, rather than risk having the impact of their move washed out only hours later. In that case, I would expect the yen to strengthen.
As for the Fed, the market no longer expect them to hike rates this meeting. Overall, investors put only a 50% probability on a rate hike by the end of the year.
There are several reasons why it’s unlikely at this meeting:
The economic indicators recently have been weaker than expected.
In particular, the labor market has been disappointing. The Fed’s labor market conditions index has fallen seven out of the last ten months.
At the last meeting in July, the Committee was split pretty much in half. The weak data probably haven’t been enough to tip the balance. The 12-member FOMC hasn’t changed policy with four dissents since 1980 nor with two dissenting Governors (likely to be Brainard and Powell this time) since 1993.
They may not hike now, but given how many FOMC members have argued in favor of doing so, they are unlikely to rule out a rate hike in December, either.
The focus then will be on the forecasts and in particular, the closely watched “dot plot” giving the FOMC members’ predictions for the fed funds rate. The Committee will extend its forecasts to 2019 at this meeting. They may just keep the same terminal rate of funds but move it out to the end of their new forecast period, lowering their expectations for rates in 2017 and 2018 to make this possible. That would give a more gradual rate profile.
In that case I would expect the dollar to weaken. The main beneficiaries should be high beta currencies, such as NZD, AUD and SEK, and emerging market currencies.
With all the attention focused on these two meetings, the RBNZ’s meeting is likely to be an afterthought. Economists unanimously expect no change in rates this time, although the market does think a cut is likely by next February. Assuming that the Fed lowers the profile of its expected rate hikes, the NZD’s relatively high interest rates – the highest in the G10 – would become even more attractive and NZD might benefit.
As for Friday’s PMIs, they’re expected to show a modest slowdown in Europe and an equally modest acceleration in the US. Such small changes may not make much impact on the market.