The US Federal Reserve Bank starts their two day meeting today with the much anticipated announcement tomorrow. There are almost no market participants who do not expect a $10 billion reduction in monthly stimulus down to $65 billion per month; $30 billion in mortgage backed securities purchases and $35 billion of treasury purchases.
The US Dollar will benefit from a reduction in stimulus as the supply of US Dollars will be increased at a slower pace. Overall the US Dollar is the most oversupplied currency and therefore has a downward bias as the US Federal Reserve continues to print the currency.
The Fed started to taper with its stimulus during the last meeting in December, but forex traders did not react in a very bullish manner as currency pairs such as the EURUSD and GBPUSD have maintained their dominance over the US currency. Since most expect a continuation of Fed tapering it is likely that the US Dollar may not move in a very strong bullish fashion.
This meeting will also be the last one for Ben Bernanke as Janet Yellen will take over the top seat of the US Federal Reserve on February 1st. She has been aligned with Ben Bernanke and is very likely to carry out his policies without major changes. Interest rates will remain on hold until after 2015 and Yellen is considered to be dovish who cares about the unemployment rate more than anything else.
Here are the three potential outcomes tomorrow and how it may impact your forex trades:
Fed will taper as expected – This is likely priced into the markets already and the moves in the US Dollar should be limited, prone to reversals. Most traders expect the Fed to taper by $10 billion, $5 billion in MBS and $5 billion in treasuries. This should be the least volatile outcome for tomorrow’s announcement.
Fed will adjust taper – This could add more volatility and bigger moves in the forex market. The Fed could opt to leave MBS purchases on hold which could suggest bigger problems in the housing market which has underperformed over the past month and bigger overall economic problems. Should treasury purchase be increased it may also signal bigger problems in the yield curve which could worry traders. Additionally the Fed could taper less than $10 billion which would also be a warning sign or step up purchases which should spark a US Dollar rally.
Fed will skip taper – This may be the biggest unexpected outcome and should send the US Dollar tumbling which may push the EURUSD to above 1.3800 and the GBPUSD to a breakout of its current resistance at 1.6600. Should the Fed not announce a taper tomorrow it will signal overall economic weakness which is expected to last and forex traders will adjust their positions in a high volatile trading day which may last into next week.