July FOMC Meeting – Will it be a non-event?

Summary:

  • FOMC meeting is due on Wednesday, July 26th
  • There will be no press conference after the FOMC statement
  • Fed officials are likely to communicate further on the plans to unwind the balance sheet
  • Markets expecting a less than 10% chance of a rate hike this week
  • Overall odds of a rate hike for the rest of the year stands just around 50%

Fed unlikely to change much of its communication

The FOMC meeting this Wednesday, July 26th is likely to pass off as a non-event as investors were seen not expecting much from the central bank this week. The fact that there is also no press conference following the FOMC statement potentially lowers the odds of any surprises from this week’s meeting.

The fact that the Fed funds futures rate hike probability has odds of less than 10% on average shows that the bond markets are expecting the short term rates to stay put within the 1% – 1.25% band.

Focus will no doubt turn to the FOMC statement due to lack of any clear actionable data from the Fed. Officials have previously forecast one more rate hike for this year. However, the odds for that remain just around 50%, suggesting that the decision for one more rate hike could go either ways.

In regards to the FOMC statement, investors will be parsing any hints in regards to the recent downward pressure on inflation. Consumer prices have remained stubbornly below the Fed’s 2% target rate.

Although at one of the previous meetings, some Fed officials were concerned about inflation overshooting the Fed’s target rate that is turning out to be increasingly unlikely.

Officials have repeatedly mentioned previously, especially the Fed Chair, Janet Yellen informing that the Fed’s short term interest rates were at neutral level. This suggests that the Fed is not under any pressure to hike interest rates.

As a result, there is a strong chance that the Fed will keep its language intact without making any strong references that could suggest another rate hike in the near term.

Fed could give more clues on balance sheet normalization

The Fed’s balance sheet normalization will of course be on the agenda. The Fed could potentially use the opportunity to announce any upcoming changes to unwinding its balance sheet.

The Fed has amassed nearly $4 trillion in agency mortgage backed assets and bonds over the years since the 2008 global financial crisis. The central bank communicated its stance on this in past meetings as well.

The potential for the unwinding to begin in September is quite strong. The Fed had previously communicated that it would start to unwind the asset purchases at a pace of $10 billion per month. The prospects for an earlier start to the balance sheet unwinding cannot be ruled out especially as the U.S. approaches its debt-ceiling debate in fall this year.

Fed Governor, Lael Brainard told recently that if the current economic conditions persist, then it would be “appropriate for the central bank to begin commencing a gradual and a predictable process for the balance sheet to run off.”

Fed likely to address inflation concerns

The FOMC statement could also potentially address the concerns on the recent trend of weak inflationary pressures. While unemployment levels remain historically low that could support the case for a rate hike, inflation remains the wedge that could upset the plans for another rate hike.

Despite the weakness, the Fed chair, Janet Yellen remained optimistic that inflation would soon return to the Fed’s target rate.

The U.S. dollar which has weakened significantly has the potential to the upside especially in case of any hawkish hints from the Fed this week.

Besides the FOMC meeting, the second quarter preliminary GDP data will also be coming out this week on Friday. Expectations call for a 2.5% increase in the GDP. This marks a strong uptick from the 1.4% GDP that was registered in the previous quarter ending March 2017.