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Forex traders will be glued to their screens on Friday waiting to hear what Fed Chairman Ben Bernanke will say at his speech at an annual central bank conference in Jackson Hole, Wyoming. The fact that last year he used the same venue to announce QE2 has given added importance to the event since with stock markets heading lower, many analysts warn that Bernanke could use the event to possibly announce the start of QE3.
The fact that during the most recent FOMC meeting, there were 3 dissenters makes the launch of QE3 very difficult and most unlikely. Instead, Bernanke is most likely to focus on the Fed's balance sheet and opt for tinkering with the size and composition of its portfolio to get the world's largest economy out of its funk, according to a Reuters analysis.
Interest rates are already near zero, and the central bank's policy-setting Federal Open Market Committee just two weeks ago signaled it is willing to hold borrowing costs at rock bottom levels for two years if necessary.
Bernanke appears unlikely to reach for dramatic measures, but the Fed could use verbal communication. It could commit to maintain its balance sheet, which has surged to $2.8 trillion from a pre-crisis level of around $900 billion, at this high level for an extended period of time — even adding a timeframe just as it has for the fed funds rate.
A bolder step would be to buy more bonds, though conditions do not seem to merit that at this juncture. While Fed officials argue bond buying has held longer term rates lower than they would otherwise have been and moved investors to seek riskier assets than safe-haven Treasury securities, the strategy has drawn sharp criticism domestically and internationally.
The key to how Bernanke reacts is the level of the S&P 500 index since it is well known that one of the key ingredients for Bernanke to shoring up confidence among consumers is keeping the stock market on an upward course. The other one is to keep interest rates low for an extended time until the housing market picks up.
He has managed to boost share prices substantially higher during the last two years and has kept interest rates very low, which has helped stabilize the housing market, though there has been no turnaround, yet.
Forex traders will also wait to position themselves accordingly since the launch of QE2 a year ago signaled the Fed’s preference for a low dollar and the signal for the market to position accordingly. Indeed, if QE3 is launched, then the euro and other major currencies are likely to stage a breakout on the upside and rally higher. Alternatively, if no new programme is announced, then traders will most likely keep trading the dollar and keep it in its recent ranges.
The price action on gold and other commodities will also depend on what Bernanke says on Friday. After reaching a record high, gold is particularly vulnerable to a good-sized down correction, which may start if no new programme is launched by the Fed.
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(Shavasb Bohdjalian is an approved Investment Advisor and CEO of Eurivex Ltd., a Cyprus Investment Firm, authorized and regulated by CySEC, license #114/10. Eurivex is also a provider of forex white label solutions and forex brokerage packages. The views expressed above are personal and do not bind the company and are subject to change without notice. Investing in markets and trading on leverage is highly risky and it may not be suitable to all investors since it carries a high degree of risk and you can lose more than your initial investment)
