Breakdown of FOMC scenarios and why USDJPY and VIX are key markets to watch

S&P 500, FOMC, Interest Rates, Dollar, VIX and USDJPY Talking Points:

  • The business perspective: S&P 500 bearish below 4,075; USDJPY bearish below 134.00
  • The main event risk for the session, the week, the month ahead – and possibly the year – is the FOMC rate decision which will weigh on much more than just the 50 or 75 bp hike in today
  • While the general market attention will focus on the S&P 500 and the dollar, I’m more interested in the VIX and USDJPY


Markets are not hiding their focus on the upcoming FOMC decision

All eyes are on the U.S. central bank’s monetary policy decision expected in the early afternoon of the New York session (18:00 GMT) on Wednesday, and for good reason. Not only is the Fed the world’s largest central bank at the helm of the world’s largest economy, but it’s a symbolic leader in global politics that many believe is far behind the curve of runaway inflation. While many are worried about whether the band will rise 50 or 75 basis points (bps) later today in the New York session, there is a deeper concern that we should be monitoring: if monetary policy loses its grip on the economy, the financial system and speculative markets. At the very least, the event still benefits from the Influence Hypothesis that has seen it dictate huge moves like the S&P 500 and the US Dollar over the months and years. behind us. Despite the aggressive fall in US indices that ultimately pushed the SPX through a technical barrier that defined our current cycle as an official “bear market” as of Monday, the pressure was more or less contained on Tuesday. Without the Fed’s anticipation, the market would probably have continued its collapse. The question is whether this is a temporary respite for fundamental momentum to regroup or an opportunity. How the Fed moves forward and the reaction of the market will determine our course, but it should be noted that the The S&P 500 is down 5 straight sessions to match its most persistent fall since February 2020 at the height of the pandemic.

Chart of the S&P 500 with 20-day SMA with volume and consecutive day movements (Daily)

Chart created on Tradingview Platform

The decomposition of the scenario of a critical monetary policy decision for the world

Rate expectations for this particular Fed meeting have skyrocketed over the past few trading days. Just a week ago, the prevailing forecast for this political event was a hawkish but well-heralded 50 basis point hike and a move towards a measured quantitative tightening effort. Yet in the absence of central bank guidance from the rhetoric due to the media blackout, the combination of extreme inflation via the CPI and the collapse of a sentiment report American consumers have charged speculation with a wide range of possible outcomes from this political group. When there is a wide range of likely outcomes from such a large event, the likelihood of a significant market impact is much greater, regardless of the outcome. Breaking down Wednesday’s political event, there are usually two distinct collision moments: the rate decision and Summary of Economic Projections (SEP) are due at 6:00 p.m. GMT, while Chairman Powell’s press conference begins a half hour later. I believe the first wave is more important; but depending on how it plays out, the president might find himself able to add fuel to a raging fire.

Table of FOMC Policy Decision Scenarios and Market Response

Breakdown of FOMC scenarios and why USDJPY and VIX are key markets to watch

Graphic created by John Kicklighter

There are a few factors to gauge the ultimate impact of a major fundamental event on a market. While many traders tend to follow a manual “A is better for a market while B is negative”, there are critical complications that we face before this event. The first criterion is the starting point for previous policy orientations. As of March 16e At the FOMC meeting, the central bank not only raised its benchmark range by 25 basis points; it further increased its expected rate of tightening through 2022 by 100 basis points. It is very likely that they again increase this projection significantly at this meeting. After Friday’s CPI reading made it clear that inflation is not transitory – and hasn’t even peaked – the need to rein in pressures to ensure it doesn’t not block economic activity has increased. In particular, I’m interested to see what their median rate forecast is; but it is important to keep an eye on their prospects for growth, inflation and unemployment as well.

Table of Fed Growth, Unemployment, Inflation and Interest Rate Forecasts from March

Breakdown of FOMC scenarios and why USDJPY and VIX are key markets to watch

March 16 FOMC Charte Summary of Economic Projections

Measuring the change in the political authority’s own expectations is an important assessment in assessing the market’s response to the actual event; but to really base the scenarios of a price reaction, it is essential to determine what would surprise the markets themselves. As suggested earlier, the range of expectations is spread enough that any outcome is likely to catch a significant portion of the market off guard. In back-to-back polls I’ve conducted on Twitter around policy scenarios and market response, we can easily see a fairly even distribution of possible outcomes on the policy mix (apart from a 100 point rise basic). Moreover, there are just as many disputes among traders as to what policy mix would best serve the problems of the S&P 500. Be wary of market reaction in this environment.

Twitter polls asking traders for FOMC decision and best-case scenario for a bullish market response

Breakdown of FOMC scenarios and why USDJPY and VIX are key markets to watch

Poll from, @JohnKicklighter

My two main markets to watch for Wednesday: VIX and USDJPY

I’m sure traders in all markets are tuned into the Fed’s decision, expecting the event to represent a source of huge volatility potential even though there are many degrees of separation between their asset and the event. While the US policy mix does not directly represent a systemic opportunity to steer anything and everything, its influence should not be underestimated given its implications for the global financial system. The extent of the impact of the “risk trend” depends on the outcome and price of the catalysis of speculative interests, but I will turn to a specific benchmark to assess whether there is an opportunity for a short-term rebound in risk , a steady 2022 bear market extension or fall that quells bearish fears faster than expected. The VIX Volatility Index is an imperfect measure of ‘fear’ or ‘risk’, but it is still useful in its ability to gauge hedging and speculative appetites. If the VIX continues to slowly rise even in the midst of a significant decline in the underlying S&P 500, I don’t think there will be a viable contrarian reading unless there is a sudden reversal and holistic view of the underlying fundamentals. Still, a push above the 50 market can wipe out all the fear in one fell swoop, opening the door to reasonable opportunism.

VIX Chart Overlaid by VVIX (Weekly)

Breakdown of FOMC scenarios and why USDJPY and VIX are key markets to watch

Chart created on Tradingview Platform

When it comes to the market impact of the Fed’s decision or any other major event risk, the staging of the target asset before the spark is just as important as the report/outcome outcome. Remarks. As such, the USDJPY has positioned itself to trigger serious fallout from the Fed’s decision. The prevailing uptrend pushed the pair past the previous high of 135.16 from January 2002 and notched an 8-day rally in the process. This bull run matches the longest period of the benchmark cross dating back to 2011. I don’t believe the markets haveat the reversal, but conditions may set up a higher potential. Given this pairwise clash between the allure of aggressive US rate forecasts and the fading risk trends lately, this looks like heavy instability and a high perch to fall from. It is absolutely certain that the outcome of the Fed’s decision could help generate a “risky” rally or a fresh charge in the dollar, but I would doubt an almost immediate follow-up. Alternatively, a firm push into a bearish reversal would trigger a number of dominoes at once.

USDJPY chart with 20-day SMA and consecutive candle (daily)

Breakdown of FOMC scenarios and why USDJPY and VIX are key markets to watch

Chart created on Tradingview Platform

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