The Fed kept the Federal Funds Rate on hold at the October 28 meeting as was expected, citing lack of job growth and below target inflation. The market was priced at only a 6% probability of liftoff at this meeting. The accompanying statement was relatively hawkish and signalled for a December liftoff. The greenback rallied after the release of the statement, with probabilities of a December liftoff rising.
The hawkish statement’s most notable change was the introduction of the sentence, “In determining whether it will be appropriate to raise the target range at its next meeting.” This explicit reference to December was telling and clearly shows that the Fed wants the market to expect a liftoff on December 16.
The FOMC Minutes for the October 27-28 meeting, released on November 18, did not contain any major surprises but did show that most policymakers anticipated the US economic conditions and outlook could well warrant December rate hike. The minutes clearly left the door open for a move in December, but dependent upon data. The USD reaction was relatively muted with the dollar failing to extend on its recent rally, as the market was likely hoping for a more hawkish surprise. CME FedWatch Fed Fund futures implied probability for December decreased from 72% to 68%. A rate hike in December remains highly likely.
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After two months of disappointing readings, the employment situation in the US showed strength for October with all three main components coming in much better than expected. The headline change for Non-Farm Payrolls came in at 271,000 versus 180,000 expected, Average Earnings was at 0.4% versus 0.2% expected, and the Unemployment Rate printed 5% versus 5.1% expected. This stellar result saw the USD boom across the board and Fed Fund futures implied probability for a rate hike on December 16 jumped from around 30% to near 70%. It is likely that the USD will remain strong heading into December.
The Fed has clearly stated that it needs to be confident that underlying inflation is moving back towards the 2% inflation target before raising rates. Core CPI rose 1.9% during the 12 months ending October 31, unchanged from September, while Core PCE came in at 1.3% for September, up from 1.2% in August. Although Core PCE is still a fair way off the 2% target, it is currently not moving lower, and Core CPI is also steady at 1.9% – this is likely sufficient for the Fed to raise rates by 25 basis points in December, especially since the central bank is more concerned with the path of rate hikes rather than a single increase.
The Fed has effectively prepared the market for liftoff on December 16, and with CPI remaining steady, nearly all the pieces of the liftoff puzzle are in place. There is still PCE ahead, due on November 25, and NFP for November on December 4. Assuming these data points do not disappoint and there is no unexpected increase in global uncertainties, the Fed will raise rates on December 16 and the dollar is likely to rally into the event. We remain with a strong bullish bias.