Fed Must Learn From Draghi’s Mistakes

We’re seeing some caution in the markets ahead of the latest FOMC decision on Wednesday as investors look to the central bank for clues on the pace of interest rate hikes in the U.S.

U.S. indices are expected to open only moderately higher, in line with the kind of moves we saw in Asia overnight which is quite common in the build up to yet another important Federal Reserve event. We’re seeing slightly stronger gains in Europe so far, driven primarily by similarly positive moves in oil early in the session.

What makes this FOMC decision particularly interesting is the fact that we’ll get the latest economic projections from the central bank and the dot plot which lays out the expected path of interest rates from the Fed’s policy makers. Given that this comes at a time when there’s so much uncertainty among market participants as to the timing of the upcoming rate hikes, this could spur quite a lot of volatility in the markets.

While a change in interest rates is extremely unlikely today, it’s the path of rate hikes that has caused so much confusion in the markets. When the Fed first hiked interest rates in December, it indicated that it intends to raise rates another four times this year which raised a lot of eyebrows and the doubters were out in force.

At times this year, markets have even priced in no further rate hikes this year, although now it seems they are coming round to the idea once again, with Fed Funds futures pricing in a 56% chance of a rate hike in July and 79% chance of one by the end of the year.

Fed Rate Prob

Some people are even coming round to the idea that there’ll be more than one before the end of the year, which I personally believe it very likely.

As we’ve seen in the cases of many other central banks so far this year, communication from the Fed is going to be key, which makes Chair Janet Yellen’s press conference all the more important. Any slight miscommunication from the central bank can send the markets into a frenzy, as we saw in the case of Mario Draghi and the ECB last week, which means Yellen will have to be very careful to get the correct message across. This will preferably be in line with the economic projections and dot plot so as to avoid any further confusion which is what has led to so much volatility and mispricing at times in recent years.

Economic Calendar

For a look at all of today’s economic events, check out our economic calendar.

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Craig Erlam

Craig Erlam

Senior Currency Analyst at OANDA
Based in London, England, Craig Erlam joined OANDA in 2015 as a Market Analyst. With more than five years' experience as a financial market analyst and trader, he focuses on both fundamental and technical analysis while conducting macroeconomic commentary. He has been published by The Financial Times, Reuters, the Wall Street Journal and The Telegraph, and he also appears regularly as a guest commentator on networks including Sky News, Bloomberg, CNBC and BBC. Craig holds a full membership to the Society of Technical Analysts and he is recognized as a Certified Financial Technician by the International Federation of Technical Analysts.