Whilst so far most of the currency pair moves in September have been taken up with speculation as to whether the Fed will raise interest rates this month next week it will reach a crescendo with the FOCM meeting. Despite the higher than expected inflation figures released on Friday market analysts don not expect a September rise putting the chance of a rate increase at around 15%.
As for the Fed, the market’s view of the probability of a Fed rate hike next week continues to be exceptionally low at around 15%. However, key Fed speakers in recent weeks have given mixed messages with respect to the Fed’s position and perspective. Some have argued for a sooner rate hike, even citing the distinct possibility of one occurring in September, while others have been more dovish. The latter includes the last speaker before next week’s FOMC meeting, the characteristically dovish Fed Governor Lael Brainard. who cautioned on Monday against raising interest rates too quickly.
Additionally, September has thus far seen a general deterioration of US economic data in the form of substantially worse-than-expected releases regarding employment (NFP) and both the manufacturing and services industries (PMI), that have significantly lowered the market’s expectations for a September rate hike. Most recently, a plethora of US economic data was just released on Thursday, mostly worse than expected, which generally did not bode well for the prospects of a US rate hike by an already skittish Fed. Most notably, retail sales, core retail sales, the Producer Price Index, and industrial production were all significantly lower than expected.
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Next week is not solely about the fed though and there will also be some of the focus should to the Bank of Japan as it issues its latest monetary policy statement and the market looks for further easing. Many such move is likely to significantly move the market.
The Bank of Japan convenes on the same day as the Fed. With the Fed not expected to change policy, will the BOJ create its fireworks? Credit Suisse has its doubts:
The BoJ meeting on 20-21 September appears to be attracting more market attention than the Fed meeting also taking place on 21 September. Option markets show a clear premium in USDJPY vol vs. the rest of G10 vol around the two-week tenor coinciding with the BoJ meeting
Indications of strong market interest in JPY abound across the vol space. The divergence in implied correlations, with JPY correlation drifting higher suggests markets, are looking at the JPY as a potential driver for FX volatility (Figure 6). At the same time, the front-end tenor USDJPY risk reversal skew has moved close to zero over the course of the past few weeks; pricing USDJPY calls at a near flat premium to USDJPY puts
This sharp increase in demand for optionality around the BoJ meeting and the shift in relative pricing for USDJPY calls vs. puts to the highest point in almost a year suggests the market is approaching the upcoming BoJ meeting with high expectations for a dovish outcome, one that would likely drive spot USDJPY higher. We think these expectations will once again be disappointed.
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