Fed Dovish Hike - The Most Likely Scenario

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EUR/USD: Fed Decision – The Final Countdown

• Exactly seven years after slashing its target rate to the zero lower bound (a range of 0%-0.25%), the Federal Reserve will almost certainly announce a 25 bp rate hike today. This would be the first increase in the short-term interest rate in nine-and-a-half years, by far the longest period without a rate hike by the Fed to date.

• A hike is widely expected and priced in by the market. That is why the main focus will be on the release the updated summary of economic projections. We do not anticipate any significant revisions to the growth or inflation forecast. And while some FOMC members may lower their jobless rate forecast a bit further, that may not be enough to affect the median either.

• After more than a year of anticipation, investors are more eager to know how quickly the central bank will tighten following the initial rate adjustment. The most important thing in today’s statement will be interest rates projections (so called dot-plots). In September, the median dots for 2017 and 2018 stood at 2.625% and 3.375%, respectively. As many Fed officials have repeatedly stressed that the rate hike path will be extremely gradual, we think that the median dots for 2017 and 2018 will come down by 25bp each. The forecast for the longer-run rate will probably stay at an unchanged 3.50% for now, after having been lowered by 25bp in September. But there is also a risk that we will see also a further cut (to 3.25%) in the longer-run rate.

• GrowthAces.com anticipates a “dovish hike” i.e. some cautious language that suggests the hiking path will be gradual. In such a case, we think that the USD will come under some downside pressure.

• The decision will be released at 19:00 GMT. It is to be followed by a press conference by Fed Chair Janet Yellen to elaborate on the central bank's latest policy statement.

• In the days to come the Fed will have to prove that a new set of tools for managing interest rates will work as expected, see how higher US rates affect domestic and global financial conditions and hope that weak world demand and commodity prices do not lead to an overall bout of deflation and force the Fed to reverse course.

• The Labor Department said yesterday its so-called core CPI, which excludes food and energy, increased 0.2% last month and 2.0% yoy, the largest gain since May 2014, after rising 1.9% yoy in October. The increase in core CPI reflected steady gains in the cost of rents, airline fares, new motor vehicles and medical care. They were, however, offset by falling gasoline prices, leaving the overall CPI unchanged last month after a 0.2% mom increase in October. In the 12 months through November, the CPI increased 0.5%, the largest gain since last December, after rising 0.2% in October. The Fed targets 2% inflation.

• Eurostat revised up Eurozone inflation data to 0.2% yoy in November from 0.1% yoy. HICP inflation in October amounted to 0.1% yoy.

• France's ECB governing council member Francois Villeroy de Galhau said measures announced on December 3 by the European Central Bank were sufficiently accommodative and the market reaction excessive. The EUR/USD jumped as much as 3.1% and bond yields surged in response. He there was no great divergence between the monetary policies of the Eurozone and the United States.

• Today’s Eurozone PMI data are overshadowed by expectations for the Fed statement. Manufacturing PMI slipped to 54.0 from November's 54.2. PMI pointed to fourth quarter economic growth of 0.4%

• The USD strengthened strongly after the CPI data. In our opinion EUR/USD drop could be a good opportunity to buy the EUR/USD ahead of Fed statement, which we expect to be dovish.

Significant technical analysis levels:

Resistance: 1.0979 (daily cloud base), 1.1060 (high Dec 15), 1.1073 (high Oct 30)

Support: 1.0905 (low Dec 15), 1.0874 (10-day ema), 1.0796 (low Dec 7)