Here are some key facts to consider as we head into what is probably going to be the biggest December meeting in recent times for the US Federal Reserve Board…
December 15-16 2015 will be the day of decision for the Feds, as they hold perhaps the most important meeting that the FOMC has held in the last ten years. The decision to be made is clear: to hike or to wait?
Here are some important statistics to tell you the general expectations of the market participants. These are excerpts from data published by the Commodities and Futures Trading Commission (CFTC) in the commitment of traders to positions in the forex market, otherwise known as the Commitment of Traders Report.
Net US Dollar Long Position $27.6 Billion, Increases 30% as of Nov 3.
Net Australian Dollar Short Increases to 38,625 Contracts as of Nov. 3
Net Australian Dollar Short Position $2.8 Billion, Increases 6.1% as of Nov.3
Net Yen Short Increases to 43,787 Contracts as of Nov. 3
CFTC: Net Yen Short Position $4.5 Billion, Increases 28% as of Nov.3
Net Euro Short Increases to 134,334 Contracts as of Nov. 3
Net Euro Short Position $18.4 Billion, Increases 26% as of Nov. 3
These data from the CFTC clearly mirrors the fact that traders are expecting a rate hike in December. Remember that when it comes to interest rate decisions in forex, it is the expectation of the market and not the increase itself that moves markets. If you have to wait for the hike, it is likely that the market would have priced this in ahead of time and would have made up to 75% of the expected move before decision day. This is why traders are taking positions now as can be seen in the CFTC report.
From this report, we can see that traders are increasing positioning in the following directions:
Rate Hike and the Carry Trade
One of the expected outcomes of any decision by the Fed is the impact it will have on carry trades. Carry trading is the practice of buying a high yielding currency and selling a lower yielding one so as to profit from the difference in the interest rates. If the Fed opts to hike rates, the expected resumption of the dollar’s rally is that it would weigh most heavily on the currencies of countries with low interest rates. Investors are likely to turn toward such units that make strong candidates for funding carry trades for higher-yielding assets. With a strong jobs report from the US greasing the way for the Fed to hike the cost of borrowing, emphasis is now on carry trades as traders would have to readjust their baskets. A top trader at Pioneer Investments put it this way: “After the Chinese devaluation, investors pivoted away from euro and yen as funding currencies. They’re pivoting back. They should be most vulnerable. The dollar will rally across board, but investors are going to look at those currencies in countries with extremely low interest rates.” A look at the currency markets will show the Euro to be particularly vulnerable as it presently operates a negative interest rate regime, with the Yen and the British Pound closely following. The Bank of England had recently stated that it was not in a hurry to increase rates as the inflation rate in the UK was far less than the targets it was looking at to start raising borrowing costs.