FOMC Minutes Preview

Despite Friday's yield curve inversion, the consensus is that the Fed will plow ahead with an aggressive tightening cycle. FOMC minutes could shed some extra light.

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Getting ready for the next move

According to FedWatch, almost 3 out of 4 economists are expecting the Fed to raise rates by 50 basis points at the next meeting. After the last meeting, the Fed's dot-plot matrix which shows where Fed members expect rates to be in the future, was updated to be nearly in line with the market's view of 7 rate hikes this year.

With the consensus firming up on the rate hikes, the question that could move the markets and for which we could get some additional clarity in the minutes, is the balance sheet. It can be argued that the Fed's roll off, or outright selling, of bonds (known as QT) could have a bigger impact on the stock market than the rate hikes.

What to look out for

Although pretty much all of the Fed speakers recently have become hawkish on rates, there hasn't been all that much commentary on what to do about the record-breaking balance sheet. Fed President Lael Brainard said on Tuesday “I expect the balance sheet to shrink considerably more rapidly” than in 2017/18. So, there is likely to be some insight available in the minutes, particularly in what kind of parameters the Fed is considering.

- When? The Fed could start shrinking the balance sheet as soon as the next meeting in May.
-How much? The market obviously expects a balance sheet reduction, so the really big question is by how much each month. And whether the Fed will set a monthly amount, or adjust at each meeting
-How? Perhaps just as big as the amount, it is the mechanism. Particularly whether the Fed will simply "roll off" - that is let bonds expire as they come due - or outright sell holdings.
-What kind? The other issue is whether the Fed will be getting rid of its longer-term bonds, or selling bills. Each would have varying effects on the yield curve. Rolling off bills, which constitute the bulk of current Treasury issuance, could imply a sharp increase in short-term yields, with a bigger impact on stocks than sales further along the curve.

EUR/USD prepares for descend

EUR/USD lost $1.10 on Tuesday after a reversal took its toll at the 50-day average near $1.1180 last Thursday. Losing the round support would imply bears will garner attention to $1.09 and $1.08 next.

Surviving the day above $1.10 might offer an opportunity some 30 pips higher, but it is unlikely to lead to a full-blown reversal without recapturing $1.1180. In the interim, bulls will have to get over $1.11.

Source: Spreadex trading platform

Key takeaways

Market expectations of Fed rate hikes have been shifting after the last meeting due to the Fed's updated 'dot-plot matrix'. It's possible that traders could be more worried of the 'roll off' of bonds than the rate hikes.

There are three big questions left for the Fed to decide when it comes to the balance sheet further out the curve: when, how and what. And answers will determine the short-term trajectory of yields, thus euro/dollar.