Fed Meeting Statement: Dollar Could Rebound on “Hawkish Hold”

Tuesday sees the Federal Reserve’s Federal Open Market Committee (FOMC) commencing its two-day meeting on monetary policy, with a policy decision due on Wednesday at 1900 GMT. Markets widely expect rates to remain unchanged, though a delivery of a "hawkish hold" seems to increasingly be the view among analysts. Should this materialize, then the US currency is anticipated to post gains relative to other currencies.

Indicative of the broadly held view that rates will remain on hold is the fact that futures markets are currently pricing in a close to 95% chance for the federal funds rate to remain within the target range of 1.25% to 1.50%.

Despite the headline number of the preliminary estimate of US Q4 GDP growth coming in weaker than forecasted, overall there were reasons to cheer for after the reading’s release on Friday January 26, with consumer spending that accounts for the largest portion of GDP expanding at its fastest rate in more than a year and spurring optimism moving forward. The improved economic outlook, combined with rising inflation expectations, are the factors lending support to those favoring the case for a hawkish take by Fed policymakers as the central bank’s two-day meeting comes to an end, with of course a March rate hike – an outcome that is priced in for the most part by markets – anticipated to be clearly communicated.

Should a hawkish tone indeed prevail, then the US currency is likely to advance as market participants are expected to revise upwards their projections in terms of the number of quarter percentage point hikes to be delivered in 2018. The Fed’s latest dot plot projected three such interest rate moves during the year, with the markets currently having priced in less than that. In this dollar-positive scenario, dollar/yen could meet resistance around the 110 handle, this being an area of congestion in recent months, as well as 110 being a level of potential psychological significance.

If the Fed’s message falls short in terms of "hawkishness" however, then dollar/yen could continue its declines that saw it touch a four-and-a-half-month low last week. In this case, the aforementioned low of 108.27 could provide some support to the pair, with steeper falls shifting the focus to the 14½-month low of 107.31 that was recorded on September 8.

Wednesday’s interest rate decision will be accompanied by the FOMC statement that investors will use to gauge Fed policymakers’ outlook on the economy, inflation and thus the tightening cycle. No press conference will take place after the meeting, while fresh forecasts and projections (including the Fed dot plot) by FOMC policymakers will be released upon completion of the Fed’s next meeting on March 21.

The current meeting constitutes Janet Yellen’s last one as Fed chair, with Jerome Powell subsequently taking over the role. Powell, a Fed Board of Governors member, was dubbed by many as "Mr. Continuity"; barring adverse economic conditions that justify "outside-the-box" thinking, the Fed is projected to continue along the policy normalization path Yellen set under Powell’s guidance.

Finally, it is worth noting that this is going to be a hectic week in terms of data out of the US, with the nonfarm payrolls report out of the world’s largest economy also hitting the markets on Friday. Beyond economic releases, President Trump will be giving his first State of the Union address at 0200 GMT on Wednesday, with trade, infrastructure spending and immigration plans being among the expected topics of discussion. These too have the capacity to act as market movers for dollar pairs.