Fed Hikes But Suggests a Pause

The Federal Reserve hiked by 25bps, taking the Fed funds rate to 5.00-5.25%. Its statement dropped "some additional policy tightening may be appropriate", which was in the March statement. This statement included, "Tighter credit conditions for households and businesses are likely to weigh on economic activity, hiring, and inflation." This will aid the Fed and suggests that central bank is considering a pause. "In determining the extent to which additional policy firming may be appropriate to return inflation to 2 percent over time, the Committee will take into account the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation, and economic and financial developments."

During the press conference, Jerome Powell, the chairman, stated that, if necessary, the central bank was ready to increase interest rates, and that there was a low likelihood of rate cuts this year. However, the US 2-year yield, a good proxy for monetary policy dropped close to 16 bps yesterday, with a large part of the move during the press conference.

Weekly Analysis

Source: www.tradingview.com

The top chart shows the weekly US 2-year yield. We are monitoring the chart action to see if a lower peak (LP?) is being charted. If it does, then a lower trough will put the yield into down trend.

FXCM's USDOLLAR basket is in the middle. There is a possible head and shoulders top being charted. It has not completed yet and needs to move below its red neckline to be regarded as valid. The right shoulder (rs) has lost volatility (blue rectangle) – we will examine this more closely below using a daily period analysis.

The bottom indicator is the correlation coefficient between the US 2-year yield and the USDOLLAR. The current reading is 54%, but this looks to be ticking higher. I.e., the US 2-year yield's trend (a proxy for monetary policy) is having an influence on the USDOLLAR.

Daily Analysis

Source: www.tradingview.com

FXCM's USDOLLAR daily chart shows the low volatility of the right shoulder. Its Bollinger bands are squeezing tightly (red arrows). Markets cannot stay at rest for long, so the squeeze suggests an expansion of volatility may be expected soon.

The bottom indicator is the Bollinger BandWidth. It is useful to identify squeezes. A breakout from the trading range with an expansion in BandWidth often marks the beginning of a trend. The bandwidth is at its lowest level since March 2022, connoting a large build-up of potential volatility.

When an expansion occurs, the zones will help navigate the direction. In order for the right shoulder to complete, the expansion should be accompanied by a breakdown. I.e., the candles should position in the bearish zone between the lower blue and red bands.

Summary

• The Fed hiked by 25 bps but has suggested a pause.
• The door is still open for further hikes if necessary and there is a low likelihood of rate cuts this year.
• However, the US 2-year yield looks to be charting a lower peak.
• FXCM's USDOLLAR basket may be charting a head and shoulders top.
• Volatility on the potential right shoulder has dropped.
• Daily analysis shows a squeeze on the Bollinger bands.
• This connotes that volatility is set to expand.
• Zone analysis will help map the trajectory of a volatility expansion.