News Column

Dovish Federal Reserve weakens the Greenback

June 25, 2014



By Jameel Ahmad, Chief Market Analyst at FXTM



Last Wednesday evening, a more dovish than expected Federal Reserve weakened confidence in the USD. Although the Federal Reserve continued to taper their Quantitative Easing stimulus by a further $10bn, the US central bank surprisingly downgraded their economic growth projections for 2014.

Beforehand, speculation emerged that the Federal Reserve would actually upgrade economic projections during the FOMC minutes (following Yellen's acknowledgement at a public speaking event in New York during May that US economic growth was set to accelerate throughout the latter half of 2014). In reference towards why the Federal Reserve downgraded their 2014 economic growth projections, the central bank admitted that the adverse winter weather period the United States faced over the New Year, had a larger detrimental effect on the US economy than they first envisaged. Overall, the US central bank are now projecting their economy to expand between 2.1% and 2.3% this year, a considerable decline from the 2.8% to 3% forecasted in March.



Janet Yellen inspired further USD weakness during her live press conference address, when she refrained from offering any indications regarding what timeframe the Federal Reserve would consider raising interest rates. Previously, Yellen had indicated that this could happen around six months after the Federal Reserve concluded their Quantitative Easing program. Generally, Yellen maintained a dovish tone throughout her press conference. For example, despite the US employment sector making substantial progress over the past few months, (the US economy has now regained all of the 8.7 million jobs lost during the recession and for the first time in nearly 15 years, the US economy has added over 200,000 jobs to their payroll for four consecutive months) Yellen identified that the US employment sector was still underperforming. All in all, the dovish Federal Reserve tone contributed towards the EURUSD reaching a two-week high, the AUDUSD recovering all losses from a dovish RBA minutes release two days prior and the GBPUSD finally advancing to a new 5-year high.



Moving on to the United Kingdom, although the GBPUSD finally advanced to a new 5-year high, the advancement occurred in a slightly more unorthodox manner than many were expecting. Since BoE Governor Carney hinted nearly two weeks ago that the BoE might increase interest rates sooner than the markets expect, anticipation was high that either the UK inflation levels had reached the BoE 2% threshold target, or a member of the BoE's MPC (Monetary Policy Committee) had voted in favor of a UK interest rate increase during the latest BoE meeting. Neither of these hypothetical situations materialized. In fact, UK inflation CPI fell to a new 5-year low, with inflation increasing at an annualized 1.5%, and the BoE minutes release showed that the BoE's Monetary Policy Committee still voted 9-0 in favor of maintaining interest rates at a record-low 0.5%. In reference to when the GBPUSD advanced towards a new 5-year high, it occurred after the Federal Reserve weakened the USD last Wednesday evening.



Since then, the GBPUSD has depreciated slightly. BoE Governor Carney and three members of the Monetary Policy Committee (MPC) testified in front of the UK Parliament Treasury Committee in London and specified that there is still no confirmed timeframe regarding when the BoE may increase interest rates. In fact, Carney specified that when the UK rate hike occurs, it will be encouraged by data driven economic data, such as the UK unemployment rate extending below 6% and a noticeable advancement in UK average wage growth. Domestically, the BoE are now being criticized for sending contradictory messages regarding when the BoE will raise interest rates. Before Tuesday's testimony to the UK Parliament Treasury Committee, 80% of economists had predicted an interest rate hike in November. Following Carney's admission that a UK rate hike will data driven, rather than time specified, economists are delaying their expectations for a UK interest rise until February 2015.



In reference to the EU economy, with the exception of confirmation that EU inflation increased at an annualized 0.5% last month, economic releases last week were low in quantity. However, the EU economy still remained in the news headlines. During an EU Finance Ministers meeting in Luxembourg, Christine Lagarde (Head of the International Monetary Fund) announced that the EU economic recovery had not been robust, or sufficiently strong. Lagarde also signaled that there were signs that the EU economic momentum was slowing, and the ECB needs to consider introducing asset based purchases (Quantitative Easing), if inflation levels remain low.



Unfortunately, since Lagarde's comments, there have been further indications that EU economic growth is slowing down. The latest Markit Purchasing Manager's Index (PMI) showed that EU economic activity in June slowed to its weakest rate in six months. The PMI for private sector activity this month fell to 52.8, from 53.5 in May. Additionally, Monday's EU Manufacturing and Services PMI release displayed further signs of contraction in France, while Germany's IFO estimates in June failed to meet expectations.



Elsewhere, for the second consecutive month, a dovish RBA minutes release encouraged AUDUSD weakness. Last month, the Reserve Bank of Australia weakened confidence in the Australian currency by announcing that the Australian economy was set to enter a period of weaker than expected economic growth. Although this month's RBA minutes release made some reference towards a similar message, the Australian Central Bank also announced its displeasure with an overvalued AUDUSD.



Finally, Bank of Japan Governor Kuroda announced during a press conference in Tokyo that the Japanese economy was recovering moderately and he expected Japanese inflation levels to continue to increase throughout 2014. However, Kuroda admitted that a sales tax imposed in April had encouraged some distortion with recent Japanese economic releases. The BoJ is set to continue issuing monetary easing until the Japanese economy is recording a consistent 2% inflation rate. The latter statement refutes an emergence of speculation last month that the BoJ was already internally discussing how to withdraw from its Quantitative Easing program.



What to Watch this Week: I am expecting the final confirmation of United States first quarter GDP on Wednesday to attract the majority of attention over the upcoming days. Following the Federal Reserve's surprising announcement during last Wednesday's FOMC minutes that they were downgrading their economic growth forecasts for 2014 (due to the adverse winter weather period), it is possible that Wednesday's GDP release will show that the US economy contracted further than originally anticipated during the 1st quarter of 2014.



Other than Wednesday's US GDP release, market volatility will likely witness an increase from Thursday evening onwards. On Thursday evening, the latest Japanese CPI (inflation) readings are released. This is followed by UK and France GDP announcements on Friday.



France's GDP release has the potential to raise a few eyebrows. We are expecting French Gross Domestic Product (Quarter on Quarter) to be confirmed at 0.0%, but their services and manufacturing PMI's have contracted for several consecutive months and this could consequently correlate towards a worse than expected GDP figure.



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ForexTime Ltd (FXTM) is a forex broker founded by Andrey Dashin in December 2012. FXTM provides access to the global currency market and offers trading in forex, precious metals, Share CFDs, ETF CFDs and CFDs on Commodity Futures. Trading is available via MT4 and MT5 platforms with spreads starting from just 0.5 on the Standard MT4 trading platform and from 0 on the ECN.MT4 and ECN.MT5 trading platforms. Bespoke trading support and services are provided based on each client's needs and ambitions - from novices, to experienced traders and institutional investors. The company is registered as a Cyprus Investment Firm under registration number HE310361 and is licensed by the Cyprus Securities and Exchange Commission (CySEC) under license number 185/12.


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Source: Financial Mirror (Cyprus)


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