Market In Review: Trading The Fed Hike’s Aftermath

Bond markets priced-in approximately 98% odds for a hike, going into the Wednesday’s Fed announcement. Being predictable, one could have expected the usual mantra of an improving economy driving higher stock market valuations. Evidently though, this was not the case. In addition to the S&P losing 0.5% with the opening bell of Thursday’s session, news of Amazon purchasing Whole Foods led to further fears, of upcoming price competition in the retail sector. These, in turn, have weighed on retailers’ stock prices. The S&P 500 continued to show weak performance towards the weekend, concluding the session at a 0.06% weekly loss, to 2,433.15 points.

But equity’s response doesn’t tell the whole story here. Perhaps most peculiar is the fact that bond markets expressed little hopes that the Fed would be able to continue and meets its longer term policy targets. The U.S. 10 year bond’s yield, namely, went from hovering above the 2.2% level, ahead of the announcement, to dropping little over 2.10%, after it. The decline of the 10 year has led the spread between its yield and that of the 2 year bond to a mere 0.83%, expressing the flattest U.S. yield curve since October of last year, before it began steepening on the U.S. elections and hopes of fiscal stimuli.

Does the Fed still have the market’s trust?

Markets’ reaction countered Fed efforts to convey the message that it would continue to tighten policy going forward. These efforts consisted of the Fed announcing a plan to unwind its massive balance sheet, beginning this year. Additionally, the Fed’s forecast for future policy, also known as the “dot plot”, which is often moderated between announcements was kept nearly unchanged this time, forecasting a 1.4% rate at the end of 2017 and 2.1% and the end of 2018.

In addition to lackluster belief in U.S. interest rate and equity markets by the Fed, the FX market’s reaction didn’t bode well for future collaboration with market participants. The Fed’s tightening managed to see a decline of EUR/USD beginning late on late Wednesday’s session, extending losses to a level of 1.1132 on Thursday. This didn’t last long though, with an increase back towards 1.12, very close to where it started the week. The Pound similarly, strengthened by 0.3% vs. the Dollar this week. The GBP’s strong performance followed a Thursday rate announcement at which the Bank of England revealed that it was keeping rates unchanged via a small 5-3 majority, with the minority view holding that rates should be increased by 0.25%.

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