Risk Assessment – Fed’s Interest Rate News Changes the Landscape

Given that the US Federal Reserve’s primary function is to bring stability to the markets, its statement that it is “talking about, talking about” a change of monetary policy could appear an appropriate opening gambit. It was never going to be easy delivering bad news to markets that have been feeding off cheap money for years.

The key comments coming out of Wednesday’s FOMC meeting related to news that interest rate hikes are likely to be coming into place sooner than previously expected. Chair of the Fed, Jerome Powell, may still be talking about rate hikes that are more than 12 months away, but many investors were left scratching their heads. The language used suggested Powell was trying to let the markets down gently, but Wednesday’s news was not what was expected. Until this week, the Fed had repeatedly described inflationary pressure as “transitory”, and major risk-in assets fell in price thanks to the change of stance.

Major equity indices plummeted on the back of the official release of the latest monetary statement. Thanks to Jerome Powell’s conciliatory tone at the post-statement press conference, they did recover some ground soon after.

The Dow Jones Industrial Average index closed the day down 0.8%. The S&P 500 index was down 0.5%, and the Nasdaq Composite index gave up 0.2% of value.

Precious metals also posted significant losses. Silver has fallen almost 4% in value and on Thursday morning is now testing the critical support level of the 13th of May low of 2672. Similarly, gold has given up 3.2% of value and continued its price slide overnight.

Silver 4H Price Chart

Source: IG

Gold 4H Price Chart

Source: IG

The precious metal and treasury markets could be the ones to watch as they can offer a clearer indication of long-term market mood. The knee-jerk reactions from equity markets sometimes come down to factors other than economic fundamentals.

It’s now down to investors and analysts to consider the details of the FOMC meeting minutes to fully understand the likely pace of change – although the direction of travel is left in no doubt.

One key element of the official statement for the last 12 months has been its opening statement:

“The Covid-19 pandemic is causing tremendous human and economic hardship across the United States and around the world.”

That’s now gone and has been replaced with the much more upbeat suggestion that the recovery is confirmed to be in progress.

“Progress on vaccinations has reduced the spread of Covid-19 in the United States. Amid this progress and strong policy support, indicators of economic activity and employment have strengthened.” Source: US Federal Reserve

The voting patterns among FOMC representatives suggest the committee is agreed on what they want to happen, but not on how to get there. Given the unprecedented events of the last 14 months, that’s not surprising, but the uncertainty looks set to play a role through the summer.

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About the author: Justin Freeman

Justin is an active trader with more than 20-years’ industry experience of working for big banks and hedge funds. He has an inside knowledge of how the financial markets work, thanks to roles including trader on a $750m Event-Arbitrage desk and CRO and COO of hedge funds running a variety of strategies. From stat-arb and trend-following CTA to fixed-income relative value. Firm’s he has worked at include big banks like Citi, and prominent hedge funds including D. E. Shaw and Millennium Capital Management.

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