19 března 2009

19/3 A bit of analysis on the FOMC meeting

The Fed shocked the markets last night with aggressive moves to further support credit markets and lower interest rates all along the US yield curve. It massively expanded mortgage backed security purchases, it announced earlier today that the TALF would also be moving into, and most significantly it announced that the Fed would be buying up to $300 billion worth of treasuries – the most direction route to printing money available and not something that the market was looking for. What effect is this having on markets?

EQUITIES – initial reaction is for equities to rally as it helps the rates pictures, which was beginning to look a bit scary as Treasury yields were nearing key levels. This is a bit odd considering the cycnicism we have seen in the past on every move by US officialdom. Today was a bit of shock and awe it seems… 800-808 is a key are in the S&P500.

FIXED INCOME – obviously massively supportive for government treasuries in the short turn – the long end was not ready for this and treasuries have absolutely exploded

CURRENCIES – this goes right to the heart of the theme of competitive devaluation – avoiding deflation by devaluing the currency, which the Fed is engaging in with all guns blazing here. The market has already learned a lesson from the BoE’s similar move at their last meeting, when they also moved aggressively into debt monetization. USDJPY is one of the main movers here as this move brings massive relief to the pressures on interest rate differentials all along the comparative yield curves.

GOLD – gold broke key support before the Fed announcement, only to gain spectacularly after the very aggressive Fed statement with a shocking 40+ dollar gain. This makes sense in light of the theme of competitive devaluation mentione above – that all countries with overwhelming debt burdens (most advanced economies…) are in a race to devalue their currencies in an effort to create inflation and avoid the trap of debt deflation. This drives all currencies weaker versus the world’s only real hard currency….

OUTLOOK: while many will see this aggressive move by the Fed as another nail in the US greenback’s coffin, we are certain of one thing on a macro level: that all rallies in risk appetite/hope are premature at this stage of the game, and that the USD move thus far still seems to be allied with increasing risk appetite. IF the USD is still able to sell-off when equities turn tail further down the road, then USD bears would have a point. Until then, we are suspicious that a return to USD strength may occur as soon as the rally in equities plays itself out. Still, the near term surprise in the Fed’s aggressive stance could push EURUSD toward 1.37-1.39 whereas before we suspected that the upside potential was more limited as we were not anticipating that the Fed would move so aggressively at this time.

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