Fed Expected to Hold Ahead of Critical NFP

With the Fed largely expected to maintain the Fed Funds rate target for at least one more month, markets may focus more intently on the upcoming NFP to gauge expectations around the timing of Fed easing.

The Focus of the FOMC Meeting

Consensus forecasts indicate the Fed will leave rates unchanged at this meeting. However, there is significant anticipation of an interest rate cut in the near future, with a slim majority of analysts forecasting such a move as early as the March meeting. Typically, the FOMC provides advance indications of major policy shifts, and Chairman Jerome Powell's presser may offer clues on the timing through his choice of language. Considering markets' expectations, If the Fed does not signal rate cuts, the dollar could catch a bid as some investors may view the stance as more hawkish than expected.

Of course, the markets' heavily dovish expectations have outstripped the Fed's own rhetoric for some time. As such, the Fed may be more hawkish than markets anticipate to push back on those expectations. However, this may only cause a transient reaction to equities and yields, likely to fade quickly as the market returns to its original bias. This would require the upcoming NFP not to point to labour market strength as it could compel the FOMC to maintain higher rates for longer.

Easing Labor Market, Easing Fed

Investors hope the best of both worlds will be reflected in the upcoming Nonfarm Payrolls data: slowing inflation prompts the Fed to cut interest rates, yet the jobs market remains resilient, and the US avoids recession. Despite several major companies announcing layoffs earlier in the year, the market seems optimistic about employment figures for January, assuming those layoffs will transpire over subsequent months.

Consensus forecasts indicate the US economy added 175K  jobs in January, below the 216K jobs reported in December. Though revisions to prior months' figures are common, bringing the original projections closer to reality. The unemployment rate is also projected to stay stable at 3.7%. Where the focus may lie is any inflationary pressure from average hourly earnings. Growth here is expected to slow to 0.3% monthly from 0.4%. To facilitate comparison to inflation, the annual rate of increase in average hourly earnings is anticipated to ease to 4% from 4.1% prior.

A challenge for the market reaction will be discerning a situation where job growth remains robust enough to suggest recession has been avoided yet not so strong as to imply the Fed will maintain higher interest rates to preempt wage-driven inflation.

EURUSD Heading to H&S Neckline?

Unless the EURUSD forex pair forms a leading wedge pending pullbacks beyond $1.0935 and a trend continuation towards $1.0640, the medium-term points to a head-and-shoulders pattern. This implies the right shoulder peak has been completed at $1.10, with the neckline low settled by the $1.0724 swing support being the next target. Losing $1.0784 would increase speculation of the H&S pattern, whereas reclaiming $1.0843 and 87 would suggest a prolonged bearishness.

Source: SpreadEx / EURUSD

Key Takeaways

The Fed is expected to keep interest rates unchanged at their meeting tomorrow but could signal that rate cuts may come in the near future. Markets are anticipating cuts as early as March, and any indications of a delay could temporarily support the dollar. While slowing job growth would support that case, the opposite would imply the Fed should keep rates high for longer. The upcoming NFP report will show how many jobs were added in January and offer market guidance on the Fed's timing. The ideal scenario would be slowing inflation prompting rate cuts while the jobs market remains resilient and the US avoids recession. The consensus forecasts indicate the US economy likely added around 175K jobs in January, slightly below December, with attention on the average hourly earnings growth as a gauge of inflation pressures.