Overnight Headlines

*Largest rate hike in years likely as FOMC to tackle inflation

*Dollar towers versus peers as markets bet on large Fed rate hike

*Yen slides past 1998 low as rate gap heralds more losses

*ECB to hold “ad hoc” meeting today to discuss current market conditions

US equities were mostly lower as investors await the FOMC’s action to tame surging inflation. The Nasdaq closed in the green for the first time in four days. But the blue-chip benchmark, the S&P500, suffered a five-day losing streak, dipping into bear market territory. The Dow also fell for a fifth straight session. Defensives sold off while cyclicals like tech were unchanged. Growth outperformed value for the first time in a week. Futures are mixed this morning.

USD continued higher to scale a fresh two-decade high. DXY posted a high of 105.65 before closing around 105.51. EUR tested 1.04 but GBP was especially weak. Cable fell below 1.20 to a new cycle low at 1.1933. EUR/GBP broke higher and is trading above 0.87. USD/JPY got as high as 134.59 earlier today as US Treasury yields pushed to fresh highs. AUD dropped near to the May low at 0.6828.

Day Ahead – Market expects the Fed to go large

It seems very likely that the FOMC will hike by 75bps this evening. This would be its largest rate increase since 1994. Now fully priced in by markets, it would certainly be a dovish surprise to only move rates up by 50bps. The Fed recognises it needs to do more get inflation under control after the red-hot data on Friday.

Bond yields rose again yesterday. The benchmark 10-year US Treasury, which moves with growth and inflation, hit its highest point in 11 years at 3.49%. The 2-year, which maps the Fed Funds rate more closely, touched a 15-year high. The US Treasury market is the world’s largest financial market and the bedrock of investment and loan pricing decisions. There will be focus on the Fed’s economic forecasts and “dot plot”. Consensus sees higher inflation and lower growth projections. Money markets see the US Fed Funds rate around 3.7% by year-end. This is from the current level of between 0.75% and 1%. Hints during the press conference around what the Fed plan to do after the summer will also be key.

Chart of the Day –Sterling loses big as headwinds hit

GBP has tumbled for three straight sessions, losing over 4.5% of its value against the dollar. It is the worst performing major this week. Worries about the cost-of-living crisis and household spending are seeing investors wonder if the BoE pauses its rate hikes in the coming months. Real wages are contracting, and we have had mixed employment and GDP data this week. Tomorrow’s MPC meeting will confirm if the recent weakness in the pound is validated.

After struggling to move above resistance at 1.2638/66. GBP/USD has broken lower through the prior cycle low at 1.2155. This now becomes inital resistance. Below here is the May 2020 low at 1.2075 and the September 2019 trough at 1.1958.