What to Expect From FOMC Today

The FOMC today concludes its two-day meeting later in what is likely to be the highlight of the week for the markets. The impact could be magnified this time around because most of Europe is away on holiday, meaning there is less liquidity. And with earnings season providing a mixed bag of results, investors might be looking to the Fed for guidance on what’s to happen.

The overwhelming consensus is that the FOMC will leave things unchanged once more. The focus will then be on the accompanying statement, which is also expected to maintain the same tone as before. And then there is Fed Chair Jerome Powell’s press conference, where traders will likely be especially attentive to any signs of forward guidance on rates. This time around there won’t be an update on the “dot-plot” matrix, summarizing the expectations for rates for the rest of the year.

What Could Shake Up the Markets

While the main focus is on the rate path, there is another issue that could come up that is likely to alter the market’s trend: The run-off of the balance sheet. Since before starting the tightening, the Fed has been selling or letting expire $90B in bonds a month. This has been depleting the reserves of cash, and many analysts think it’s time for the Fed to adjust this balance sheet reduction to a lower rate.

In effect, this would be a form of easing, because it would mean less cash is being withdrawn from the market. That could end up providing more optimism for the market, as investors wait for the reduction in rates. The Fed easing up on the balance sheet roll off would likely help bring interest rates down a little, without actually challenging the status quo in fighting rates. Some analysts believe that this adjustment could happen as soon as June, meaning the Fed could heavily hint at it following today’s meeting.

Giving Some Relief to the Markets

US indices have been on the backfoot lately as the expectation that the Fed will keep rates higher for longer has pushed up interest rates and the dollar with it. So, talk of slowing the roll off could end up boosting equities and getting the dollar to turn around a bit. Especially given the renewed concerns that high interest rates would result in a recession, which has contributed to the drop in US stocks in the lead up to the Fed meeting.

The other factor that could provide some weakness for the dollar is a change in Powell’s stance, even if the monetary policy statement is largely in line with what happened last month. About two weeks ago, ahead of the pre rate decision blackout, Powell gave an important speech in which he basically confirmed the markets’ worst fears. The gist was that inflation still hadn’t shown signs it was convincingly coming down, so rates would likely have to stay higher for quite a while. A softening of that stance might also help support the markets.

Another Punt

Basically, the last meeting was kicking the can down the road in the hopes that inflation figures would improve. Since then, the same ambiguous data trend has persisted, with headline inflation rising while PCE continued to slide. Which gives the Fed little to justify a change in stance.

What the markets could do is over read into the statement about which of the (at the moment contradicting) indicators the Fed will value more as a way of trying to figure out when cuts will begin. That is, whether the Fed will care more about the uptick in short term inflation, or will rely on the longer trend. That means, barring some surprise, the markets might have to wait until the next batch of CPI figures to get some clarity.

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