The last important economic event of the year has arrived. Later in today’s North American session, the Federal Reserve of the United States (Fed), will release its FOMC Statement. Half an hour later, the press conference is set to offer more details about the decision and to answer financial journalists questions.
Much is at stake at today’s event. The market pushes the Fed’s hand by stubbornly sticking at the highs fueled by a weak dollar. In fact, the greenback is so weak that the dollar index is close to the lows for the year, with no meaningful bounce in the last six months or so.
The Fed is at risk of ruining the party if it does not deliver what the market expects – the so-called Operation Twist. The name refers to the Fed’s potential decision to shift the focus of the Quantitative Easing (QE) program to longer-dated bonds. Such a move will further depress yields on the longer end of the yield curve, easing financial conditions even more.
What Are the Risks of Today’s Decision?
The Fed will ease today by expanding the QE program and vowing to keep the rates lower for longer. Yet, this is already priced in, and the risk is to see some kind of a language tempering from the Fed. If the Fed decides to postpone the Operation Twist to January or beyond, the dollar may turn higher.
In fact, the Fed did hint that maybe December is not the best month to act. Recent comments from Fed’s officials suggested that the decision to focus on the long-term bonds may be postponed and that would trigger a hawkish stance from the Fed.
In the eyes of financial markets, a hawkish stance means a higher dollar and lower stocks. Judging by the fact that the European Central Bank (ECB) eased last week but delivered a hawkish message, we should not be surprised if the Fed decides to do the same.
Ultimately, the market wants to see if the Fed means business with its recent Average Inflation Targeting (AIT) shift. It is one to announce it, and another to act on it. After all, words are cheap, so goes the saying.
As such, expect today’s decision to be complex enough to send the markets all over the place. It could be the last spike in volatility for the year – one year we all want to forget sooner rather than later.