Markets are preparing for the next Fed decision, the release of which and subsequent comments by President Powell could trigger sharp moves in the market and set the tone for the coming days or even weeks.
In the interest rate market, the probability of a 75-point move is 8%, leaving a 16% chance of a 100-point move today. There is a highly unusual expectation that the market will price in from last Tuesday, creating attractiveness for defensive assets.
The money market restored extremes in the previous days and raised prices in the long term.
In the currency market, the dollar index approached the highs set at the beginning of the month, now trading at 110.35, while the GBPUSD, EURUSD and USDJPY rewrote or approached their multi-year highs. From this point, it only takes a small push to start an avalanche-like movement in either direction. It all depends on the market’s understanding of the Fed’s monetary policy plans.
A week after a surprise August report on US inflation, the market seems to have completely given up on the idea that the Fed will cut interest rates. On the contrary, the market currently seems to be swinging from one extreme to the other, expecting a rate of 200 basis points before the end of the year. This creates an opportunity for „positive” surprises.
In our case, this could translate into a correct dollar sentiment and recovery in the stock market from a local basis. The stock market may not break the downtrend until the firm return of SandP500 is above
The rise of DXY will not be questioned until the decline is below 107.70.
On the other hand, if the Federal Reserve remains firm in its tightening of financial conditions despite market volatility, continued declines in stocks and an increase in the dollar could cause an almost free fall of uncontrolled selling as in March 2020.
Such market stress may cause the Fed to change policy, as it did in 2020, 2018, 2015 and 2011. But before the Fed takes such a direction, the SandP500 could lose 7-12% from current levels near 3600 (200-week average) and 300 (pre-pandemic peak).
It will be difficult for the Dollar Index to find significant technical levels in the 120 area, which could take up to five months if the momentum from the beginning of the year is maintained.