We see the combination of the US Federal
Reserve’s (Fed) revised stance on employment,
its comments on the housing market, and the
sheer number of Federal Open Market
Committee (FOMC) members expecting a rate
rise before 2014, as a general indication of
increased hawkishness within the Fed. The
chances of a third round of quantitative easing
(QE3), in our view, therefore, now appear less
likely. This subtle shift potentially heralds an
upcoming opportune entry point into markets.
Earlier this week the FOMC, the Fed committee
responsible for setting interest rates, left rates on hold and
pledged to keep them very low until the end of 2014. The
committee repeated its commitment to keep the Fed’s
"balance sheet under review" and reiterated its willingness
to "act as appropriate". While all this was broadly in line
with previous FOMC pronouncements, we did see some
shifts in stance, particularly the assessment that growth is
"expected to pick up gradually" and that the housing
market was showing some “signs of improvement”.
In the FOMC press conference, Ben Bernanke, the Fed’s
chairman, continued to express the view that the recent
steep drop in unemployment would not be sustained.
However, this seems in stark contrast to purchasing
managers’ indices (PMIs), which suggest that the positive
trend in employment will continue. Indeed, this index
forms part of our rationale as to why we see a third round of
quantitative easing (central bank asset purchases), as less
likely. Nevertheless, despite expecting a slowdown in the
recent positive trend, the Fed did revise-up its
employment forecast to reflect the improvement in hiring.
The Fed’s forecast for unemployment now stands at 7.8-8%
for year-end 2012, from 8.2-8.5% in January, and 7.3-7.7%
On inflation, the FOMC nudged up its forecast by 0.35% to
1.9-2%. It was interesting to see that 13 out of 17 members
expect at least some sort of increase in rates before the end
2014 – this means that only four members expect no rate
rise! While all FOMC members make forecasts, only some
members have a vote and, conveniently for Bernanke, who
seems to retain a more dovish stance, four of the most
hawkish have no vote this year.
Overall, the FOMC statement and press conference gave
no signal that the Fed was actively considering another
round of QE. The major risk to this view is that
employment data deteriorates significantly between now
and the end of June, when ‘Operation Twist’ (the swap of
short-term debt with long-term debt to extend the average
maturity of the Fed’s balance sheet) ends.
In the past, an end to QE has typically led to a short-term
correction in risk assets. Thus it follows that the end of QE
in June could potentially represent an opportune entry
point into risk assets.