By Han Tan, Chief Market Analyst at Exinity Group
Markets are waiting with bated breath for what’s to come out of the FOMC meeting on Wednesday. Any tapering hints offered by the world’s most influential central bank later in the day could dictate how markets fare for the rest of 2021 and beyond.
The benchmark dollar index (DXY) is holding around the top of its recent range, while US stock futures are trying to pare recent losses. Asian stocks are mixed, with the Shanghai Composite index in the green after returning from holidays, despite persistent concerns surrounding troubles at realtor China Evergrande.
Considering the recent price action in various assets, with the dollar staying elevated and stocks lower, markets appear to have already priced in some of the Federal Reserve’s unwinding of its asset purchases. In fact, it may be the tapering pace which is more important than the exact start date.
Certainly, the Fed’s inflation projections through to 2024 as well as the closely watched updated dot plot also have the potential to move markets. Persistently elevated consumer prices would suggest that the Fed has to act to stay ahead, which implies a rate hike sooner than later.
After the weak jobs report and lower-than-expected inflation print, the surprise would be if the Fed makes known its tapering timeline at this meeting.
This hawkish shift would jolt markets, potentially pushing Treasury yields and the dollar past the upper bound of recent ranges, while gold and equities would sell off hunting down the next levels of support.
On the other hand, should the FOMC become more wary of the waning US economic recovery, that could force policymakers to continue its slow policy move towards tapering. Such dovish signals could unwind some of the greenback’s gains while offering relief to stock markets.
GBPUSD to lay bare Fed and BOE policy gap
GBPUSD could be hit with a quick one-two this week, with the Bank of England slated to announce its policy decision on Thursday, shortly after the FOMC meeting. Cable is set to react to policy signals from either side of the pond, with one-week implied volatility already at its highest since May.
If the BOE pulls back from making a hawkish tilt, that’s likely to leave GBPUSD more susceptible to the dollar’s reaction after the Fed’s announcement and Chair Jerome Powell’s press conference. The blow that potentially sends Cable to its July floor below the 1.36 mark might come in the form of Fed officials coming out en masse to reinforce a hawkish message in their respective scheduled speeches on Friday, following a less optimistic BOE meeting devoid of hawkish clues.
Tightening could help oil defy dollar gains
Oil benchmarks have surged in the wake of another substantial drawdown in US crude inventories. Prices will remain elevated, even in the face of any post-FOMC gains for the dollar, if official government data confirms a seventh consecutive drop in stockpiles.
Tightening conditions in oil markets should create a supportive environment for the bulls. However, should concerns over the waning economic recovery creep back in, then oil benchmarks might be open to unwinding some of the 5% advance they’ve garnered so far this month.
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