With a 25bps rate hike during next Wednesday’s FOMC meeting virtually assured, trader attentions will be focused on something else entirely: the median 2019 dot, shown below, as well as any changes to the “accommodative” language from the Aug. 1 statement, according to strategists and economists Bloomberg reports.
The reason for this is that, with markets having been left with a distinctly “dovish” take of Fed chair Powell’s Jackson Hole speech, the Fed may “neutralize” forward guidance in the Sept. 26 statement while displaying a firm intent to hike in December, according to Morgan Stanley, while Citi’s Jabaz Mathai expects the central bank to take a meeting-by-meeting approach instead.
As of today, the market’s odds of an additional December hike after a September move were 80%, with two more increases priced in for next year as EDZ8/EDZ9 now implies 51 bps of hikes next year, up from just 34 bps at start of last week.
; the disconnect is the Fed’s latest projections which in June showed the FOMC penciling in three more hikes for 2019. And, according to BMO’s Jon Hill, “a key question for analysts is whether the FOMC will be prepared to keep hiking past the neutral level for rates; there could be “no incremental clarity” on the issue at this meeting.”
Alternatively, depending on where the median 2019 dot goes, there could be.
As Hill adds, even if the Fed doesn’t explicitly comment in the statement or press conference about next year, the market’s focus on the end-2019 fed funds rate dot “will be pretty notable” and “if there’s an upward revision, we could see a pretty sharp upward revision in pricing.”
The reason for that is that with the Fed most likely two or three hikes away from breaching the neutral rate of interest, an upward revision would “cement the expectation that, as a base-case scenario, the Fed hikes through neutral.”
And, as a reminder, according to Stifel, once the Fed hikes above the neutral rate, bad things usually happen to the economy.
Meanwhile, in terms of the actual statement, “the core phrase we will pay attention to in the statement is what is now described as ‘accommodative’ policy” according to BMO. If information from the FOMC’s upcoming meeting simply reaffirms policy makers’ previous expectations, “the path of least resistance should be a flatter curve.” According to Morgan Stanley, “policy makers could change “accommodative” language in statement to “modestly accommodative”, while “other options would be to remove the sentence altogether or to say the target rate has moved closer to estimated range of neutral.”
Others chimed in on the topic of the third 2019 rate hike, with Joseph LaVorgna saying that the issue for the market is whether policy makers add an extra hike in 2019 by pulling one forward from 2020, or simply inserting a new one altogether into next year: “My fear is that they will do more. They are not going to do less.”
Naturally, any new hints of additional future hikes in the statement – or a rate even higher than neutral – would be interpreted as “hawkish,” causing yields to push higher, hurting stocks. To Lavorgna this is the big risk: “I see the risks as asymmetrically more hawkish”; Fed officials have “no reason to back away from the number of hikes they have.”
Morgan Stanley, on the other hand, expects unchanged median dots for 2019 and 2020, which should remain unchanged at 3.1% and 3.4%, respectively.
Citi’s Jabaz Mathai agrees, writing that “some on the FOMC might be influenced by strength in the labor market and asset prices, which might push the dots higher. But there’s probably not much reason to go up further, in the aggregate, because the dots already assume this.” Bolstering his case, he notes that the recent CPI readings have been “rather subdued,” posing a deterrent to moving rate forecasts higher.
Then there are the quasi-doves, like Wells Fargo’s Boris Rjavinski, who told Bloomberg that if Powell hints that most on the FOMC are leaning toward idea that couple more hikes are needed to get to neutral, including this month’s, “the market may indeed start thinking about how to position for the approaching end of the cycle.” That said, Wells Fargo’s forecast is above the market, and sees two hikes left for this year and another three in 2019.
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