The market continues to swing its mood almost on a daily basis this week. The dollar is reclaiming some ground on Wednesday a few hours before New York as participants await the FOMC. 

Just as we expected at the start of the week, the sentiments driving the market prior to FOMC are not consistent enough to drive major assets, especially the dollar, in a specific direction. What we have seen so far is mood swing which started with risk aversion on Monday followed by risk-off and now back to risk aversion. No major fundamentals until the FOMC coming later today.

Sentiment Analysis

On the sentiment side, while covid new cases are on the rise, the rate has dropped in the recent weeks. This is largely due to about 70 million vaccine doses administered amid lockdowns to curtail the spread of the virus. Aside from vaccination, the banks have been quite optimistic and have vowed to continue their policy support which includes the purchase of their own bonds and assets to inject liquidity into the economy. Overall, the risk-on has been persistent since March 2020 on a large scale.

Risk-off assets like the dollar, yen and swissy have been badly beaten while high-betas like Aussie, Kiwi, CAD have been on the rise together with EUR, GBP hitting their multi-month highs. This is the overwhelming market sentiment and at some point, in the first quarter of the year, we should see this sentiment resuming. Meanwhile, since the beginning of the year, the risk tone is somewhat low and risk-off assets have gained more against their counterparts. The dollar index which is the base for the major FX has gained a net of 1.22%.

FOMC in a glance

All eyes will be on the FOMC statements and Powell’s speeches today.

First, the market will like to know if the recent bad data from the US including disappointing employment and retail sales data have been able to meet the bank’s estimate or not or maybe even surpassed it. That will help to forecast the next GDP data.

Second, will the bank still play the waiting game or do something different this time? Powell’s recent speeches reiterated the bank’s readiness to continue to support until there is complete recovery in the US economy. Currently, the bank is engaging in a monthly $120 billion bond-purchasing program and a near-zero interest rate. The market is expecting this status to be unchanged. However, there are three possible scenarios

  1. Status-quo: If the Fed maintains the current policy status just as the market expects, we might see a little dip in stocks, but the dollar should remain sideways or flip upside a little. However, Powell’s tones at the conference will then be the focus.
  2. Policy Tapering: The Fed might lower its current QE plan which is quite unlikely as it would go against Powell’s ‘promise’. The dollar will pump much quickly across the board and stocks decline faster than the first scenario above. Aside from this coming against market expectation, it would also mean a much better GDP figure is on the way.
  3. Policy Loosening: The Fed might decide to add to its monthly QE plan. This would mean the recovery is much slower than expected and very dovish. USD should decline massively, and stocks rally toward new highs.

Aside from the scenarios above, market participants will weigh on Powell’s speech at the conference that follows. If his tone is hawkish with enough hints, the dollar should rise. If dovish, the dollar should fall across the board. However, if he decides to play the ‘IF’ game with not much hint into the bank’s future outlook, we might see a slow FOMC. Overall, it’s going to be a permutation of the three scenarios above and Powell’s tone at the conference. The dollar will fall most if there is more policy loosening with a dovish tone and will rise most if there is a policy tapering with a hawkish tone. The opposite should be the case for equities.

DXY technical analysis

FOMC Wednesday

The dollar index is pushing upwards on Wednesday with risk-off dictating the market mood again. From the chart above, it’s clear that the long-term bias for the dollar is very much to the downside. However, the corrective bounce since the start of the year needs to end. Has it ended at 90.96 on January 18 or will take one more leg to 91 and above? These are the two main possibilities. The FOMC should give us the final answer.

A dovish FOMC will cause the continuation of the decline from 90.96. However, the price has to breach the 90-90.08 support zone to confirm this bearish commitment. Conversely, a hawkish FOMC should cause a hike above 90.6 to confirm the bulls’ resolve to force the bullish correction to 91.

DXY will continue to dominate the market forces on the major FX. A bullish DXY should pressure EURUSD toward 1.2 while USDJPY should climb toward 104.5. GBPUSD should decline so should AUDUSD and NZDUSD. USDCAD firmer above 1.28 to 1.29. However, a bearish DXY should cause a reverse reaction on these major FX markets. A lot now depends on the Fed led by Powell. Let’s see what they have up their sleeves for us tonight.

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