Forex Investment and Currency Trading

Today’s Statement, following the Fed’s meeting was very much as expected. It noted the pick up in economic activity but warned of constraints, particularly in the household sector and reiterated that economic activity is likely to remain weak for a time. As expected it retained the phrase that the Funds rate will stay low for an extended period and also repeated that inflation will remain subdued. The four factors constraining households listed after the last meeting – ongoing job losses, sluggish income growth, lower housing wealth and tight credit – were all retained, though the Fed did acknowledge that activity in the housing sector has increased. The quantitative easing programme was tweaked as expected to spread out the purchases of mortgage securities into Q1 2010, instead of finishing this year. The total remains the same but this change means that purchases will taper off over several months rather than ending abruptly. There has been some discussion of the dangers of a sharp rise in mortgage rates if the Fed exits suddenly and this change was quite widely foreseen. But 10 year Treasury bond yields lost almost 10 bps shortly after the announcement, so it seems was not fully priced in.

The burning question now is the sustainability of this recovery. Once the boost from the end of the inventory liquidation and government stimulus fades, sometime in H1 2010, market expects the dire position of the US consumer and the continuing weakness in the banking system to bring a slowdown in the rate of economic growth. Final demand, i.e. consumer spending, business fixed investment and house-building will be the key variables to watch. The Minutes, to be released in three weeks time, may show that some members, notably Richmond Fed President Lacker, are concerned about inflation. But most Fed speakers have remained dovish; Atlanta Fed President Lockhart stated that he does not “need to be overly concerned about inflation” and Fed Vice-Chairman Kohn highlighted in August that the FOMC are committed to fighting inflation on the down-side as well as the up-side. FRB Chairman Bernanke has cautioned those who expect the Fed to raise rates sooner rather later, especially when inflation is expected to remain subdued over the next two years. With futures currently pricing in the first rate hike in April, some believe that the markets are pricing in rate hikes too soon.