For what was once seen as a live meeting, today’s FOMC now carries very little expectation indeed. Money markets now struggle to see a single Fed hike within the next year. Of course this is at odds with the Fed dot diagram, where the median estimate is for two more hikes this year and then another four hikes in 2017. A new set of economic projections is released today. We doubt Fed members will choose to lower their dot projections any further (having taken 50bp off the end 2016 projection in their March update). And median expectations for growth and inflation could be revised a little higher given better Q216 data and higher oil prices. It is probably too much to expect any strong signal of a July hike (e.g. questioning whether it is appropriate to hike at the next meeting, as they did last October). Overall, however, we think market expectations are low enough, such that the downside for US rates and the DXY is limited. A DXY close above 95.20 today would be encouraging.
The increasing threat of Brexit is drawing parallels to the Danish ‘No’ vote to the Maastricht Treaty in June 1992. This delivered a serious shock to the FX and bond market convergence of EMU aspirants (including the UK) and generated a surge in the DEM against the rest of the Europe and the Dollar, as short DEM positions were unwound. It took over a year for markets to settle from that shock and destroyed fixed arrangements for both GBP and SEK. While Brexit is not our base case, the much closer vote than expected is starting to see that EMU convergence questioned in the bond market, where peripheral Eurozone and CE4 bond markets are starting to under-perform. With over a week to go, look for EUR/JPY and EUR/CHF to stay under pressure. And assuming the Fed does not introduce a new dovish line of argumentation today, EUR/USD should stay pressured too. We have a slight bias to the 1.1120 area today in EUR/USD.
GBP remains incredibly fragile and remains subject to the vagaries of opinion polls. The Remain camp is launching another negative fusillade today, highlighting a potential £30bn black hole in the fiscal accounts in the event of Brexit which would require 2-3% income tax rise. Away from Brexit, the UK releases labour market data. At some point the introduction of a living wage could lift the overall wage figure, but GBP’s glass is half empty at the moment and Cable looks a strong sell in the 1.42-1.43 area.