Fed kept its flexibility but June hike still seems unlikely

Fed removes the word ‘risk’ from the statement

As expected, the Fed maintained the target range at 0.25-0.50%. As there was no press conference or updated projections, focus was on the statement. In contrast to our expectation, the Fed removed ‘global economic and financial developments continue to pose risks’, which was included in the statement in March. Now the Fed ‘closely monitors inflation indicators and global economic and financial developments’. In other words, it acknowledges that financial stress has eased and China has stabilised by removing the word ‘risks’. Still, the statement was only slightly more hawkish than in March, as the Fed did not state something similar to ‘risks are nearly balanced’ – the Fed is still worried, just not as much. Actually, the word ‘risk’ is nowhere in the statement. On growth, Fed seems to expect the weak Q1 GDP growth to be transitory, as it says that private consumption growth has moderated despite solid real income growth and high consumer confidence. Despite weak growth, the Fed confirmed that the labour market continues to strengthen.

No hints of June – we still expect Fed to wait until September

The big question before the meeting was whether the Fed would keep the door open for a June hike or not. While the Fed did not state that ‘risks are nearly balanced’, it did remove ‘global economic and financial developments continue to pose risks’, implying that we cannot rule out a June hike completely and the Fed keeps its flexibility. However, the Fed has now lost the possibility of communicating to prepare markets beforehand that June is in play, as was the case in October before the first hike in December. Of course, Fed members can communicate this through speeches but all else being equal, we think by itself this makes a June hike unlikely.

Our main scenario is still that the Fed stays on hold until September and hikes only once this year. For some time, we have argued that we believe the Fed is unlikely to risk tightening too much, too quickly and that it would rather postpone the hike further than tighten prematurely. In this connection, it is important to recognise that most voting FOMC members are skewed towards a dovish stance on monetary policy. Also, Fed chair Janet Yellen emphasised the downside risks to the economy in her latest speech. By waiting until September, the Fed is set to get much data that can show whether or not the slowdown in Q1 was transitory and we will be past the UK’s EU referendum (remember that the June meeting is held a week before referendum day).

The minutes are likely to show that the members of the committee have had a rich discussion and that the committee is divided.

US monetary policy still supportive factor for global FI market

The patient stance from the Fed – despite the slight change in rhetoric – underlines that US monetary policy is still a supportive factor for the global fixed income market. Hence, it seems that the trigger for a repeat of the global bond sell-off we witnessed a year ago is not going to be US monetary policy for now. That said, the FI market is vulnerable if the money-market starts to move forward the timing of the first rate hike, which is currently not pencilled in before next year.

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