markets remain nervous on the eve of two-year rate projections in the United States

2023-09-19 16:55:00

The market is a little more nervous than usual. After the 25 basis point increase in the ECB’s key rates (to 4% for the deposit rate, its highest level since the creation of the euro), it is the turn of the Federal Reserve (Fed) to decide, or not, on a further increase in its rates.

If opinions were divided on the eve of the ECB meeting, investors are convinced – 99% according to the CME Group’s FedWatch index – that the Fed will leave its rates unchanged tomorrow evening, Wednesday. And traders, according to the same index, only assess the probability of an increase at the end of October/beginning of November at 29%.

The change in tone in Jerome Powell’s speech at the Jackson Hole symposium apparently convinced investors and traders that the American central bank was itself convinced that it had done the job in its fight once morest inflation. “Jerome Powell’s speech was much more confident regarding the effectiveness of monetary tightening”underlines the economist Véronique Riches-Flores

A further increase is not ruled out

Of course, there is this nervousness, this volatility particularly on short rates. On the markets, the gap (spread) between the Fed Fund rate (overnight interbank rate) and that of Libor (three-month interbank rate) even leaves room for an increase of 25 basis points by the end of the year. “It’s a possibility that is not “valued” by the market. Libor at the end of December is still at 5.5%, which places the Fed Fund around 5.3 or 5.4%, the current level. The market clearly plays a status quo »deciphers a Rates manager.

But the wait is elsewhere. All the market’s attention will be focused on the rate projections (“dot plot”) that the central bank carries out every three months. “The debate today is no longer really regarding the status quo or not, but rather regarding the tone of the Fed’s speech and the famous estimates of governors on the level of fed funds over the next two years, while the market still plays a decline of 100 basis points by December 2024 »says Pierre Diot, rates manager at Vega Investments Managers.

Room for maneuver

One certainty, however: the Fed (any more than the ECB) will not take the risk of announcing a terminal rate to maintain room for maneuver. Central banks, they have often repeated, are data dependent, like the markets ultimately.

And the publication this Tuesday of a 10% drop in housing starts in the United States, from one month to the next, should argue for a status quo, especially as leading indicators are plunging and morale households is at half mast, the first cracks in the job market are being heard, not to mention the resumption of repayment of student loans from October 1st.

Rising rates: the ECB refuses to let its guard down, inflation is still too high

This is indeed a speech from the Fed resolutely “ hawkish » (restrictive monetary policy) which might shake the markets. Unlike the ECB. “We expected (from the ECB, Editor’s note) a hawkish status quo but we had a dovish increase (accommodative policy, Editor’s note)”, summarized a note from the Natixis bank. According to a Archyde.com poll of 70 economists, the ECB has finished with its policy of raising rates. These economists estimate that there is less than a one in five chance of a possible rate increase before the end of the year.

In the United States, a majority of economists believe that the Fed will still prepare the ground for a new (and final) increase before the economic figures are really bad.

“A rate of 5.5% shocks no one in the United States but a rate of 4% in Europe, which is going to fall into recession, is dramatic”, summarizes an analyst. In the meantime, the markets are anticipating the next rate cuts from March/April 2024 in the United States. And from March 2024 in the euro zone with a probability of 50%, according to AXA IM.