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Fed Acknowledges Further Weakness, Opts for QE Lite

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The Federal Reserve's decision to reinvest the principal payments from agency debt and mortgage backed securities along with their pessimistic outlook for the U.S. economy sent the dollar tumbling against all of the major currencies. USD/JPY is closing in on its 8 month lows while the EUR/USD and GBP/USD are at the brink of turning positive. By reinvesting principal payments, the Fed opted for the smallest move that would still show their commitment to supporting the economy. Keeping the balance sheet at its current level is the lightest version of Quantitative Easing that the Fed could have taken. Yet that was enough to drive the dollar sharply lower because reinvestment of the principal payments will keep yields under pressure. The U.S. dollar has been tracking yields for the past few months so today's announcement should lead to further dollar weakness. This decision also implies that the outlook for the U.S. economy is murky enough for the central bank to take what is largely a symbolic move just to show that they are not sitting sidelines doing nothing. It also leaves the door open for balance sheet expansion in September should the economy fail to improve.

the economic recovery is proceeding and that the labor market is improving gradually

As expected, the Federal Reserve left interest rates unchanged at 0.25 percent. The last time that the central bank changed interest rates was in December 2008 when they brought rates down from 1 percent to current levels.

We took the liberty of highlighting the changes in the FOMC statement below with some of our own interpretation and we hope you find this useful!

Comparing the FOMC Statements

FOMC Statement June 23, 2010

Information received since the Federal Open Market Committee met in April suggests that the economic recovery is proceeding and that the labor market is improving gradually. Household spending is increasing but remains constrained by high unemployment, modest income growth, lower housing wealth, and tight credit. Business spending on equipment and software has risen significantly; however, investment in nonresidential structures continues to be weak and employers remain reluctant to add to payrolls. Housing starts remain at a depressed level. Financial conditions have become less supportive of economic growth on balance, largely reflecting developments abroad. Bank lending has continued to contract in recent months. Nonetheless, the Committee anticipates a gradual return to higher levels of resource utilization in a context of price stability, although the pace of economic recovery is likely to be moderate for a time.

Prices of energy and other commodities have declined somewhat in recent months, and underlying inflation has trended lower. With substantial resource slack continuing to restrain cost pressures and longer-term inflation expectations stable, inflation is likely to be subdued for some time.

The Committee will maintain the target range for the federal funds rate at 0 to 1/4 percent and continues to anticipate that economic conditions, including low rates of resource utilization, subdued inflation trends, and stable inflation expectations, are likely to warrant exceptionally low levels of the federal funds rate for an extended period.

The Committee will continue to monitor the economic outlook and financial developments and will employ its policy tools as necessary to promote economic recovery and price stability.

Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman; William C. Dudley, Vice Chairman; James Bullard; Elizabeth A. Duke; Donald L. Kohn; Sandra Pianalto; Eric S. Rosengren; Daniel K. Tarullo; and Kevin M. Warsh. Voting against the policy action was Thomas M. Hoenig, who believed that continuing to express the expectation of exceptionally low levels of the federal funds rate for an extended period was no longer warranted because it could lead to a build-up of future imbalances and increase risks to longer-run macroeconomic and financial stability, while limiting the Committee's flexibility to begin raising rates modestly.

How to Trade FOMC

In terms of trading the FOMC release, it usually pays to wait for volatility to settle before getting into a trade. As we wrote in our FOMC Preview, the currency markets tend to be particularly volatile immediately after the Fed's announcement. Eleven out of the last fourteen times that the Federal Reserve has met, the move in the EUR/USD from 2pm to 4pm extended into the Asian and London sessions which means there should be continuation.

Source: FX360.com

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.


The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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