🏦📊DanskeBank Fed Preview
- Rosbel Durán
- Jun 16, 2021
- 2 min read
We doubt that the Fed meeting will be a very significant one. Inflation has moved higher but inflation expectations are still at acceptable levels given the Fed’s new average inflation regime
The Fed is likely to repeat that some of the price increases are transitory in nature (i.e. repeat that “Inflation has risen, largely reflecting transitory factors”). If anything long-term market-based inflation expectations like 10yr breakeven inflation has actually moved a bit lower recently
In our view, the most important thing to look out for is the Fed communication on QE. The Fed has repeated again and again that it will continue buying bonds at the current pace “until substantial further progress has been made”. Unfortunately, the Fed does not want to quantify what substantial further progress really means. We took notice of Fed Vice Chair Richard Clarida saying that “It may well be that in upcoming meetings, we’ll be at the point where we can begin discuss scaling back the pace of asset purchases”
We expect the labour market recovery to be fairly strong this year meaning that the Fed is likely to turn more hawkish in September (the shift may come already around Jackson Hole in August ahead of the meeting), where we expect the initial real discussions on tapering to start. We expect actual tapering will start in January 2022. We expect the Fed to taper USD20bn per meeting implying that tapering will conclude in September 2022. We expect the Federal Reserve to hike the first time in Q1 23.
On EURUSD: if Fed more openly discusses tapering and rate hikes at the upcoming meeting, we would view such as an argument in favour of our 12M forecast of 1.15. In terms of timing, cross-asset momentum in inflation trades will be key to follow.
A more hawkish Fed may weigh on EUR/USD spot. As has been the case since last year, the global easing of liquidity conditions and ensuring reflationary trends have been a tailwind for spot. However, spot seems to struggle to make new highs from current levels above 1.20, which is also in line with our valuation models suggesting that surprise potentials are low as valuations appear fair.
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