Fed Instant Reaction: "Considerable" Confusion

In our Fed preview earlier this morning, we argued that the market’s reaction to today’s Federal Reserve statement could be a binary outcome dependent on just two words: considerable time (see “Fed Up with ‘Considerable Time’” for more). As it turned out, the Fed managed to avoid this binary outcome by moving (NOT removing) the “considerable time” pledge within the statement itself.

Seemingly in attempt to satisfy both hawks and doves, the new statement added the following passage: “the Committee judges that it can be patient in beginning to normalize the stance of monetary policy. The Committee sees this guidance as consistent with its previous statement…” which then modified the familiar “appropriate to maintain the 0 to ¼ percent target range for the federal funds rate for a considerable time following the end of its asset purchase program.”

For the first time in over three years, this month’s statement featured three dissenting opinions (two hawkish, one dovish), though none of the dissenters will be voters next year; perhaps they just felt the need to make their non-consensus views one last time! With a new stock of Fed presidents getting swapped in for the next meeting, we would expect more reconciliation and uniformity moving into Q1 of next year.

Arguably the more meaningful (or at least less ambiguous) release was the central bank’s Summary of Economic Projections, including the now-infamous “dot chart.” There were a few meaningful takeaways from this quarterly report:

• Real GDP growth expectations did not change meaningfully, with central tendencies of 2.6-3.0% in 2015 and 2.5-3.0% in 2016
• Unemployment forecasts were revised down to 5.2-5.3% at end-2015 and 5.0-5.2% at end-2016
• Inflation expectations for 2015 were revised sharply downward, from 1.6-1.9% to just 1.0-1.6% (likely due to falling oil prices, though the core PCE expectations also ticked lower)
• The median end-2015 interest rate forecast has fallen to 1.125% (down from 1.375% in September

Finally, Fed Chairwoman Yellen is seeking to clarify the mixed signals in her ongoing press conference, though she’s having minimal success based on the market’s reaction. She stated that it’s unlikely that the Fed will raise rates “for at least the next couple of meetings,” likely ruling out the March meeting (though she’s since tried to walk back from even that vague suggestion). She also seems nonplussed by the recent drop in oil prices, a bullish development for the US Dollar.

The upshot of these Fed shenanigans is that traders have no clue what the Fed is trying to communicate, and this has been reflected in the market reaction. The US Dollar initially sold off, then rallied, then dropped once again, and as we go to press, in rallying in the wake of Fed Chair Yellen’s press conference. Gold has been similiarly volatile, but is now trading modestly lower. We have seen a bit of a risk-on reaction in equities and bonds, with major US indices rallying strongly and the yields ticking up across the board.

At this point, it seems as if the Fed’s thrust toward clear communication has been a failure. The only major takeaway for traders is that the central bank’s actions remain heavily dependent on incoming data, so unemployment, and especially inflation, will be the critical readings to watch moving forward.