Federal Reserve (Fed) Governor Lael Brainard’s hawkish comments rocked the markets yesterday as she said that the next interest rate hikes should be more aggressive to tame the skyrocketing inflation in the US, and that the Fed could start reducing its near $9 trillion balance sheet as soon as next month, and at ‘a rapid pace’.
Because the market is fully ready for a taper tantrum on the rates front, it’s mostly the comments regarding a potentially aggressive balance sheet reduction that primarily dampened the market mood yesterday, sending the S&P500 some 1.26% down, to below its 100-DMA. Nasdaq sold off 2.26% and closed the session below the 15000 mark.
Both indices start giving toppish signs, and more importantly, the short-end of the US yield curve is rising so steeply that the inversion across the yield curve brings about the worries of an imminent recession in the US.
In this tense environment, investors will be closely watching the Fed minutes today. There would be no surprise if the Fed hinted a 50-bp hike in the next meeting. Activity in Fed funds futures assess more than 75% chance to a 50-bp hike.
Yet, what will really make the difference is the speed at which the Fed will shrink the balance sheet. And there is a big potential for a hawkish pricing on this front.
The market risks remain tilted to the downside given the hawkish shift in Fed officials’ latest comments, the scary inflation figures, combined with abnormally strong jobs reports and higher wages support the idea that if there is a good time for the Fed to hit the brakes on its ultra-lose policy, it is now.
In the FX
Brainard’s comments sent the US dollar rally yesterday. The dollar index is now preparing to flirt with the 100 offers, the EURUSD sank below the 1.09 level as Cable pulled below the 1.31 mark, but if the Fed minutes doesn’t reveal a further hawkish surprise, we shall see the dollar give back the latest gains and the euro and the pound record a minor rebound.
The US and the Europeans are expected to announce a new round of sanctions on Russia after the atrocities in the cities new Kyiv that have been recently liberated by the Russian troops threw gas on fire. While the US treasury will halt dollar debt payments from Russia to increase the pressure of a default, EU is expected to announce a ban on Russian coal imports. Banning the Russian coal is a baby step in banning the Russian energy, as the Europeans are still not ready to digest the idea of a ban on Russian oil and gas for now, as it would be too hard on the economy.
The reduced risk of a European ban on Russian oil keeps the oil bulls contained. The barrel of US crude consolidates a touch above the $100 mark. Technically, the price is still above the 50-DMA which has not been significantly broken to the downside, hence remains the major support to pull out for a deeper downside correction in oil prices.
Data-wise, the latest API data showed a surprise build in US oil inventories last week by about 1 million barrels. The more official EIA data will give a clearer insight on the US oil inventories, but any positive news (higher inventories) will certainly not be enough to trigger a sustainable negative move in oil prices.