US and European futures are in the process of digesting the Fed’s message which took many traders by surprise. There were two elements of surprise in the Fed’s message. Firstly, it doesn’t look like the Fed believes that they have reached a peak in terms of interest rate hikes. Secondly, higher interest rates are likely to stay for longer than what the market players have been thinking about, and this triggered a sell-off in the markets yesterday.
Two Important Events
Today is another important day for traders. We will get to see more monetary policy decisions by two important banks, one is the Bank of England, which has a much steeper path to climb to achieve its target, especially after the recent inflation reading. Secondly, the ECB is announcing its monetary policy decision which is bound to bring higher volatility for the Euro, which has scored significantly against the dollar apart from the recent sell-off due to the strength of the dollar. Both banks are expected to keep their hawkish tone, but the cost of living crisis is a much more significant problem for the Bank of England than any other central bank. The BOE will once again increase the interest rates more aggressively than before, and the bank is going to be perceived as more of a ‘Grinch’ for the UK’s equity market than a Santa.
The Fed’s Decision
The Federal Reserve hiked its key interest rate on Wednesday to the highest level in 15 years, emphasizing that the struggle against inflation is not done despite some encouraging signals that have been emerging recently.
The Federal Open Market Committee (FOMC), which is responsible for determining interest rates, recently decided to raise the rate for overnight borrowing by half of a percentage point, bringing it to a range that is intended to be between 4.25 and 4.5 percent. The rise was the most dramatic step in terms of policy since the beginning of the 1980s and broke a series of four consecutive increases of a quarter point.
The assumption that interest rates may remain higher for a longer period of time elicited an adverse response from investors, causing equities to give up gains made earlier. Jerome Powell, Chairman of the Federal Reserve, said that it was essential to maintain the battle against inflation during a press conference. He explained that this was necessary to prevent the expectation of increasing prices from becoming ingrained.
According to the most recent dot plot, a number of participants anticipate that interest rates will reach levels that are much higher than the point that represents the median in 2023 and 2024. Seven of the 19 committee members anticipated an increase in rates for 2023 that was more than 5.25 percent. This included both voters and nonvoters. In a similar vein, in 2024 there were seven members who had rates that were greater than the median of 4.1%.
Officials also signaled that they want to maintain rates high through next year, with no decreases until 2024. According to the “dot plot” of individual members’, predictions that were provided by the FOMC, (the “terminal rate”) also known as the point where the authorities intend to stop the rate rises, was pegged at 5.1%.
The general majority predicted that interest rates would fall by one full percentage point in 2024, bringing the federal funds rate down to 4.1% by the end of that calendar year. After that, there will be a reduction of one further percentage point in 2025, bringing the rate down to 3.1%, just before the benchmark level stabilizes at a longer-run neutral level of 2.5%.
Nevertheless, there was a rather wide dispersion in the expectation for future years, which indicates that members are unsure about what the future holds for an economy that is now struggling with the greatest inflation it has experienced since the beginning of the 1980s.
In his post-meeting press conference, the head of the FOMC said inflation figures received so far for October and November suggest a welcome slowdown in the monthly pace of price rises.” However, in order to have confidence that inflation is on a prolonged decreasing trend, a large amount of further information will be required.
Gold prices took a serious beating yesterday and gave up most of their gains from the day earlier as traders reacted to the strength in the dollar index. It is clear now that the Fed is in no rush to lower the interest rates any time soon, which many were hoping for. However, it is important not to pay attention to noise, especially when it comes to the Fed dot plot, which is currently adversely influencing the price of gold. The reality is that the Fed is still data dependent and the current pace of drop in inflation is remarkable. Although it is true that it might take some time for inflation to fall to the Fed’s desired level of 5%, this may keep the gold prices scoring significant gains.
From a technical perspective, the price is still pretty close to its resistance of 1,800. It is highly likely that bulls will try to push the price above this price level once again.