Post-FOMC thoughts from SocGen

The FOMC left rates on hold, lowered the median projected path of rates in the quarters ahead by around ½%. They cut 2016 GDP projections by 0.2% to 2.2% and 2017 by 0.1% to 2.1%despite forecasting a further fall in the unemployment rate to 4.7% this year, 4.6% in 2017 and 4.5% in 2018. Concerns about the international environment remain – “Global economic and financial developments continue to pose risks” is how the statement puts it. We and most market participants, expected something slightly more hawkish that would send a stronger signal that rates could rise again in mid-year. As it is, the chances of an April hike seem very remote, and June is ‘possible’ rather than ‘probable’. Aneta Markowska’s forecast of a single rise in rates in 2016 looks in good shape – better shape than my view of EUR/USD falling back to 1.08 by mid-year.

Good for oil, good for breakevens and good for risk sentiment  The clearest conclusion isn’t about FX at all, but about breakeven inflation. Core CPI rose to 2.3% in February and the core PCE deflator had already ticked up to 1.7% from 1.5% in January. You can’t avoid thinking that the FOMC was worried about the fall in inflation expectations and will be happy to see them rise. 5y/5y breakevens had fallen to a low of 1.43% in February and while they are now up to 1.65%, a move to and through 2% seems likely to me, even in the context of a low inflation world.

Oil prices are already getting a lift.  Obviously there is no direct impact on the oil market from what the Fed does or doesn’t do but crude has traded like a financial asset in recent months. I don’t suppose that oil prices will rise dramatically but oil-sensitive currencies will get a boost. We will remain short NZD/CAD and we like short GBP/NOK (despite the likelihood of a Norges Bank rate cut tomorrow) and short EUR/RUB too.

Higher oil prices correlate beautifully with a falling dollar.  For those who think this correlation will go on holding, today’s news is very supportive. That correlation can break down if the Fed hikes and the dollar rises even as oil prices trend higher but that’s not the mix we’re going to see for now. If you want to trade the broader risk rally and don’t want to sell the dollar, sell the yen instead – maybe long MXN/JPY is going to have its day in the sun.

(SOCIETE GENERALE)

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