Latest Fed Rate Decision Sending Wrong Message to Markets

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By Joel Kruger, Technical Strategist 14 March 2012 11:02 GMT FED decision a little too easy on markets Bernanke and Co. should have removed 2014 language US equity markets are very well bid and perhaps too well bid Longer-term inflationary threat should now be addressed UK employment softer but fails to factor Japan earthquake and tsunami warning Today is a very tough day for me as an analyst and although I am delighted to see that markets are feeling more optimistic post Fed, with risk correlated assets well bid, I am still quite perplexed with the price action. The Fed continues to do everything it can to keep investors feeling confident, and while we can understand the motivation behind this strategy, perhaps yesterday’s decision was a little too considerate. The US economy has been showing some very clear signs of recovery, and given this, we feel that it is now time for the Fed to start to at a very minimum signal a reversal of policy. Some would argue that the lack of reference to a third round of quantitative easing was in fact the Fed’s way of starting to signal a reversal, but we feel that the possibility for QE3 in light of recent economic data was already highly unlikely and not expected.

Relative performance versus the USD Wednesday (as of 11:00GMT)

GBP +0.01% EUR -0.13% CAD -0.27% JPY -0.38% CHF -0.60% AUD -0.72% NZD -1.31% The Fed should have in our opinion removed the 2014 language to at least demonstrate a consideration that should the economy continue to show recovery, policy could very well be reversed even sooner than 2014. Again, while we understand the need to continue to provide an attractively loose monetary policy, we also fear the potential risks over the longer-term should the Fed not start to act. US equities have now retraced over 85% of the move from the record 2007 highs to the 2009 lows, and at this point we think it is safe to say that the effect of the ultra loose monetary policy has done a good job of inspiring confidence in the market place. The fact that we have rallied nearly all the way back and trade so close to the 2007 record highs even in the face of such a massive global macro slowdown is a little absurd in my opinion and from here I think it is time for the government to take a step back and stop incentivizing such a rally.

It is one thing to argue that the government intervention throughout the crisis has been a necessary evil to prevent an ultimate collapse of the financial system, but a completely different thing to support intervention where it is simply no longer needed. At this point, I feel that this is what we are seeing from the Fed, and the message could very well be counterproductive as it creates an illusion that all is well and current monetary policy is completely healthy with no longer-term consequences. It also sends a message that no matter what irresponsible action is taken down the road, governments will always be there to hit the reset button so that nothing really bad can happen. To us, it has always been a question of balancing the need to deal with the short-term situation over the longer-term inflationary risks. But at this point, I think we have done a good job of helping along the short end and now need to start taking the longer view.

ECONOMIC CALENDAR

TECHNICAL OUTLOOK

EUR/USD: Last Friday’s aggressive pullback strengthens the prospects for the end of a corrective move in 2012 which has in fact stalled just ahead of 1.3500. From here, the risks are tilted to the downside and a break below next key support by 1.2975 will be required to officially put the pressure on the downside and open an acceleration of declines back towards the 2012 lows at 1.2620. At this point, only a break back above 1.3300 would alleviate downside pressures and delay outlook.

USD/JPY:The market is doing a good job of showing the potential for the formation of a major cyclical bottom after closing above the weekly Ichimoku cloud for the fist time since July 2007. This further solidifies basing prospects and we could be in the process of seeing a major bullish structural shift that exposes a move towards 85.00-90.00 over the coming months. At this point, only back under 77.00 would delay outlook and give reason for concern. However, in the interim, it is worth noting that gains beyond 83.00 over the coming sessions could prove hard to come by with shorter-term technical studies needing to unwind from their most overbought levels in over 10 years before a bullish continuation. As such, we would caution buying breaks above 83.00 for the time being and instead recommend looking for opportunities to buy on dips.

GBP/USD: The market has been costly confined to trade between the 100 and 200-Day SMAs since early February and the latest break back below the 100-Day SMA therefore suggests that we could be on the verge of a bearish break. The key level to watch comes in by 1.5600, and a break and close below this level will reaffirm bearish outlook and open the door for a more significant bearish decline towards the 1.5000-1.5300 area further down. Inability to establish below 1.5600 however, will suggest that more choppy directionless trade is in the cards.

USD/CHF: Setbacks have stalled for now just ahead of 0.8900 and the market could finally be looking to carve the next medium-term higher low ahead of a bullish resumption and eventual break back above 0.9660. Look for additional gains over the coming sessions back towards 0.9300, with a break above to confirm and accelerate. Ultimately, only a drop below 0.8930 negates and gives reason for pause.

--- Written by Joel Kruger, Technical Currency Strategist

To contact Joel Kruger, email jskruger@dailyfx.com. Follow me on Twitter @JoelKruger

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14 March 2012 11:02 GMT

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