Dollar Pulls Back Further Post-FOMC

After reversing lower yesterday after the FOMC statement, the US dollar has continued to move lower against the major currencies, save sterling.  

While the market is not fully confident of a rate cut by the Reserve Bank of Australia, indicative pricing in the derivative markets suggest a UK rate cut has been fully discounted (and a new asset purchase plan may also be announced). 

Sterling is off by about 0.3% near midday in London, unable to get above the mid-point of its recent range (~$1.3000-$1.3500). The Australian dollar is the strongest of the majors, rising about 0.7%. The Aussie’s gains put it at the upper end of yesterday’s wide range and come despite a smaller increase in Q2 export prices and weaker import prices than expected. Export prices rose half as much as the Bloomberg median guesstimate (1.4% vs. 3.0%) after a 4.7% plunge in Q1. Import prices fell 1.0%. The median forecast was for a 1.5% gain after a 3.0% drop in Q1. If anything, today’s data, providing more evidence of a disinflationary thrust would increase the risk of a rate cut next week.   

The US dollar’s slide since the FOMC statement also cannot be easily attributed to a shift in interest rate expectations. Note only was the statement largely as expected, but the September and October Fed funds futures were unchanged on the day, implying 41 bp and 44.5 bp respectively.  The implied yield on the December contract increased by half a basis point to 48 bp.  

Our work suggests these yields imply a greater risk of a rate cut than the popular and often cited estimates. Given the lateness of the September meeting (September 21), the October contract may be a cleaner read. Consider, if the Fed were to hike at the Sept meeting, the fair value of the October meeting would likely be around the mid-point of the new target range (50-75 bp) or 63 bp. As we have seen, the Oct contract implies 44.5 bp. That translates into about a 30 % chance being discounted (1- (44.5/63)).