Will the Fed Launch or Kill the Santa Rally?

European markets got off to a bright start ahead of the Fed decision on Wednesday and U.S. futures are pointing to a similarly positive open, as investors reflect favourably on the prospect of a first rate hike from the Fed in almost a decade.

While the beginning of the tightening cycle should of course be viewed positively as it typically indicates strong economic performance, for a long time this has been more feared than welcomed as many have questioned the ability of the economy to withstand higher rates. Clearly that fear is passing though and investors are more optimistic now which is why we’re seeing markets rally ahead of the decision.

Whether this optimism turns into a full blown Santa rally or not will depend on the Fed’s ability to manage expectations and reassure investors than the tightening cycle will be very gradual. The reason why the Fed is raising rates now rather than when inflation returns to 2% – as per its preferred measure rather than core CPI which achieved this in November – is because it wants to avoid raising rates too quickly and this must be communicated very clearly again today.

It will be interesting to see how markets react initially to the Fed’s decision because with rates currently being between 0 and 0.25%. With a move to 0.5% currently being around 81% priced in, would markets be satisfied with the corridor being moved to 0.25-0.5% or would this be deemed to be a sign of weakness and hesitation from the Fed?

Whatever the decision, I expect to see plenty of volatility in the markets, especially as investors attempt to correctly interpret Chair Janet Yellen’s comments in the press conference which follows. Of course, the most volatility would likely come if the Fed gets cold feet like its European counterparts and pulls the plug altogether. This would cause huge credibility issues for the Fed given its clear intention to guide the markets to where they are today.

Economic Calendar

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

Content is for general information purposes only. It is not investment advice or a solution to buy or sell securities. Opinions are the authors; not necessarily that of OANDA Business Information & Services, Inc. or any of its affiliates, subsidiaries, officers or directors. If you would like to reproduce or redistribute any of the content found on MarketPulse, an award winning forex, commodities and global indices analysis and news site service produced by OANDA Business Information & Services, Inc., please access the RSS feed or contact us at info@marketpulse.com. Visit https://www.marketpulse.com/ to find out more about the beat of the global markets. © 2023 OANDA Business Information & Services Inc.

Craig Erlam

Craig Erlam

Former Senior Market Analyst, UK & EMEA at OANDA
Based in London, Craig Erlam joined OANDA in 2015 as a market analyst. With many years of experience as a financial market analyst and trader, he focuses on both fundamental and technical analysis while producing macroeconomic commentary.

His views have been published in the Financial Times, Reuters, The Telegraph and the International Business Times, and he also appears as a regular guest commentator on the BBC, Bloomberg TV, FOX Business and SKY News.

Craig holds a full membership to the Society of Technical Analysts and is recognised as a Certified Financial Technician by the International Federation of Technical Analysts.