A dovish shift as the FOMC opts to be patient

The Federal Reserve has held rates steady. After hiking by 25 basis point in December, accompanied by an increasingly dovish rhetoric from FOMC members in recent weeks, there was never any doubt in that decision. However, there have been some key changes to the FOMC statement which seem to be dovish whilst also there being a change to the balance sheet reduction program.

Changes to the FOMC Statement

Main takeaways:

• Economic activity rising at a “solid” rate rather than a “strong” rate
• The removal of the line on “some further gradual increases” on rates.
• Also given the “muted inflation pressures” the committee will be “patient” on further rate hikes.

The balance sheet reduction programme:

https://www.federalreserve.gov/newsevents/pressreleases/monetary20190130c.htm

• This is a key part in the Fed turning more dovish.
• Essentially the Fed is saying that it will now be willing to adjust its balance sheet reduction if the economic conditions deteriorate or warrant.
• This is a move to a more manual balance sheet reduction.

What could this now mean for subsequent meetings?

For a while now, Fed Funds futures have been pricing for no more rate hikes in this tightening cycle. This is an FOMC meeting that confirms that this could be the correct strategy. In removing the line about further gradual hikes, the potential is that the Fed tightening could perhaps now be at an end. The option is open should the financial conditions warrant. With the Fed being “patient” it means that the options for one or even two further rate hikes is still on the table, but highly unlikely to be in March.

Overall

This is a dovish Fed decision. No hikes imminently due to the Fed turning “patient”, whilst the move to be more manual on the balance sheet reduction will certainly cheer equity markets. Also Fed chair Jerome Powell is certainly setting a cautious approach in his press conference.

Market Reaction

This is negative for yields at the front end of the curve as the prospect of imminent hikes has been reduced. Also the dollar is under pressure from the broadly dovish decision. Wall Street also seems to like the decision.

• EUR/USD has jumped by 60 pips – and is again eyeing the near term resistance around $1.1500
• GBP/USD has jumped by 60 pips
• USD/JPY has fallen by 40 pips – and is testing the near term support at 109.10
• Gold is around $7 higher (around +0.5%) – and is confirming the decisive breakout above $1310
• S&P 500 jumped 17 ticks (around +0.7%)
• 10 year Treasury yield has dropped by 2 basis points
• 2 year Treasury yield has fallen by 4 basis points.