US dollar to react asymmetrically to data after FOMC meeting - Commerzbank

The outcome of the FOMC meeting last week has lent momentum to the dollar and this will remain the case for the time being, according to Antje Praefcke, analyst at Commerzbank. Unlike at the beginning of the year, the market now believes the Fed when it announces a rate hike cycle so the market will therefore probably react asymmetrically: good data should help the dollar more than poor data will harm it, the analyst said.

Key Quotes

“The Fed has surprised the market. Although the interest rate rise by of basis points was priced in, the expectations of FOMC members on the future rate path (so-called dot plots) were not reduced, as at previous meetings, but actually raised. Rather than two rate hikes in 2017, as was the case before the meeting, the median now is three (with a further three for 2018). The market appears to accept the Fed’s view; according to the Fed fund futures, around a third of the market likewise now expects three rate steps next year. The dollar has therefore surged: EUR/USD dropped below 1.05, the dollar index broke through the 103 mark and is at its highest level in 13 years.”

“Much will now depend on the reaction of inflation expectations on the market. So far, there has not been a reaction, although the much stronger dollar after the FOMC meeting should have actually triggered a decrease.”

“The rate hikes signalled by the Fed are apparently unproblematic in the view of most investors – which shows in turn that further rate steps are unlikely to unsettle the market. Consequently, no risk of overshooting is likely if the Fed moves a little faster on rates (for example on account of the announced expansionary fiscal policy of new US president Donald Trump)”.

“What does this ultimately mean for the dollar? Given the higher interest expectations, it should initially continue to appreciate. If these expectations are reinforced by strong economic data and further signs of expansionary fiscal policy, this should give the dollar more tailwind. And disappointing data should weigh on the dollar relatively little in the first instance as the market now believes that the Fed will act as it says it will. Thus perceptions will therefore be asymmetric once again – this time in the dollar’s favour – and good data should help the dollar more than poor data will harm it. Paradoxically, the Trump factor, which initially evoked dollar negative fears, has actually turned into a supportive factor. Whether this will remain the case in the long term is far from certain however.”