5 Keys to Understanding Tomorrow’s Big Fed Day
1) The Hawk Setup
Traders are now pricing in a 22% probability of a rate hike tomorrow and a 58% probability for December.
For the past month-and-a-half, Fed heads including FOMC Chair Yellen have been spinning a hawkish tale, seemingly to get markets prepared for a rate hike.
Now, I have to wonder: if the Fed's selling rate hikes so hard, why isn't the market really buying in yet?
2) Is It the Economy?
Clearly, US economic data strength has been deteriorating since late July, as you can see in this chart of the Citi US Economic Surprise Index:
We've seen misses on GDP, NFP, ISM Services, Personal Income, PCE Deflator, Retail Sales, PPI, etc., though last week's CPI beat was a nice win.
The Fed always makes clear that it doesn't obsess over any one data point, but I wonder if the trend is weak enough to warrant attention.
The alternate explanation for people not really buying into rate hikes just yet is probably because of the Fed's history of misdirection. No one wants to get caught playing the sucker.
3) How Are Traders Feeling?
Sentiment is mixed headed into tomorrow.
The ISE Sentiment Index is at just 55 this morning — indicating heavy put options demand.
CBOE equity put-call is at 1.25 — again, indicating heavy put demand.
So it does appear that equity traders are hedging and/or betting on more downside.
This is GREAT news for the bulls — the worst setup would be heavy call options demand ahead of an event with so many moving parts.
Remember…
4) Rate Hikes Are Not the Sole Point
The market reaction won't solely be determined by the rate decision.
What's really important is signaling of how many rate hikes there will be, and over what time frame.
Odds are the Fed will be somewhat vague, but I'm sure there will be some juicy nuggets scattered about — most likely in the form of language removals/additions.
But the most important thing is this…
5) Don't Make a Rush to Judgement
Markets do bizarre things on Fed days.
And the media is always in a rush to explain it all, which makes no sense because between 2:00 and 4:00 p.m. ET, you can see 3+ different major moves, at least 1 of them based on algos trading within milliseconds of the statement hitting the tape.
The market will tell us what matters… but not until 3:30 p.m. at least.