Fed Expected to Deliver Hawkish Statement

There has been little movement in the currency and commodity markets today ahead of the U.S. Federal Reserve monetary policy statement at 2:00 p.m. ET. Today, the language in the U.S. Federal Reserve’s monetary policy statement should give investors a better idea as to the timing of the central bank’s next rate increase.

The Fed is already on track to end its quantitative easing (QE) program in October, but this is only the first step in the process of bringing interest rates back up to more normal levels. The market has been trading as if the Fed will make its first rate hike since December 2006 during mid-2015, but this assessment could change if this central bank statement contains language that indicates a rate hike sometime sooner like during the first quarter of 2015.

The phrase that investors should focus on in the Fed announcement is “considerable time”. In previous statements, the Fed said its initial rate increase wouldn’t come until a “considerable time” after QE ends. If they remove this statement then it will send a message to traders that a rate hike is coming sooner than expected. This will cause U.S. interest rates to rise, making the U.S. Dollar a more attractive investment. This should pressure foreign currencies and gold.

Traders should note that completely removing the statement is unlikely at this time because it will shake up the markets too much. The Fed could also add more language that implies it is moving closer to a rate hike. Finally, the Fed could also make no changes to its policy statement. Because of the three scenarios, traders should expect volatility.

An easy way to look at the three scenarios and their impact on the market is this: 

• Completely remove “considerable time” – Bullish U.S. Dollar
• Change language – Somewhat bullish U.S. Dollar
• Unchanged – Friendly to foreign currencies and commodities

An even simpler way to look at the Fed announcement is any language that moves an interest rate hike forward will be good for the U.S. Dollar.

The GBP/USD did firm a little today after the minutes of the Bank of England’s most recent monetary policy committee meeting showed two policymakers voted for a second month to raise interest rates.

Also helping to underpin the British Pound was the news that the U.K.’s jobless rate fell to a six-year low in the three months through July. According to the International Labour Organization, the U.K. jobless rate dropped to 6.2 percent in the three months through July from 6.4 percent in the period ended in June, a bigger decline than economists forecast and the lowest level since November 2008.

The EUR/USD traded flat as many investors took to the sidelines ahead of the Fed statement. A hawkish statement from the Fed should pressure the Euro. Some light position-squaring ahead of the Fed statement also helped boost December Comex Gold. On paper a hawkish tone by the Fed should put pressure on gold, but keep in mind that traders have priced in a hawkish statement. Therefore, traders should be prepared by for a two-sided trade.

November crude oil is trading flat today. Oversold conditions this week have led to a strong short-covering rally. The bigger picture suggests the supply is too high and the demand too low to sustain any rally. Traders are looking for a 900,000 barrel drawdown for the week-ended September 12 when the U.S. Energy Information Administration releases its latest weekly supply and demand figures.