Although there is a panoply of factors that sway the financial markets, from Elon Musk’s tweets, through to data about Covid-19 cases, there are few factors as influential as monetary policy. That is why traders and investors should circle the date of central bank meetings in their respective calendars.

Take the upcoming US Federal Open Market Committee (FOMC) meeting as an example. Taking place on 28 July, the meeting will no doubt result in a spell of market activity. 

Traders need only look to the aftermath of the last FOMC for evidence – minutes from the meeting disclosed that the Fed was thinking about tapering its asset purchases sooner than expected. Not only did this suggest that the economy was recovering at a much quicker rate than anticipated, but this sentiment also inspired the markets, enabling the dollar to trade in near its highest level in three months.

Clearly, comments and minutes following central bank meetings have the ability to make or break market sentiment – but why is this?

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Fundamental knowledge

Put simply, any communication from a central bank about its monetary policy will inevitably offer a snapshot of worldwide economies, as well as insight into any policy changes ahead, or planned activities. Although the intricacies of monetary policy and fundamental analysis can seem impenetrable for beginners, this need not be the case.

For starters, traders and investors would do well to pinpoint their focus on the four key indicators set out by each bank – production, employment, growth, and inflation. The most important indicator to note here is inflation, which tends to have a strong impact on the bank’s base interest rate. This in turn will have a strong sway over the value of local currencies – for instance, if interest rates are on the rise, then currency rates will probably follow as well.

Very rarely will a central bank put forward any major policy changes or interest rate hikes without providing plenty of notice. Quite the contrary, central banks are aware that even the smallest insinuation that a rate rise is on the cards will buoy the markets and act as a marker of a strengthening economy. As such, they tend to float ideas like this long before any action is pursued. 

Take another example regarding the Bank of England’s (BoE) interest rates discussions – up until now, the BoE has proceeded with caution, with no signs of a rate rise any time soon. However, in light of a recent uptick in inflation, there were remarks from Sir David Ramsden, deputy governor for banking and markets at the BoE, and interest-rate setter Michael Saunders, which signaled a potentially earlier than expected tightening of monetary policy. This marked a more hawkish shift for Saunders in particular; it was a great expression of the near-term strength of GBP.

Trading is about more than just the numbers

Although it can be quite sometime before remarks like these are priced into the markets, comments and tone really do set the mark for traders and investors. That is why it is vital for individuals to commit to reading central bank statements in full, whether from the Fed or the BoE, in order to see the bigger picture.

Granted, these documents might not be the most scintillating reads, and many will be tempted to read a short bullet-pointed analysis. However, I would urge traders to read these statements in full, as doing so is the best way to hear key economists and figures in the central banks offer their take on monetary policy. Not only will these comments provide some all-important context to the details skimmed over by a precis, but they will also enable traders to take note of comments that may not be immediately pertinent yet will go on to become relevant later.

Ultimately, becoming well-acquainted with the finer nuances of central bank statements should equip traders with the tools they require to make fully informed decisions, not to mention a ‘gut feel’ for what sways the markets.