Tuesday, July 5, 2016

The changing perception on short-rate and central bank action

We have been members of the "one and done" school of Fed action for 2016, but I don't think anyone could have anticipated the change in market perception in the last week. There was a clear consensus that the Fed would raise rates during the year, but by the end of March the view was at best a coin flip for the end of the year or early 2017. Now, post-BREXIT, the chance is only 2% between July and December and less than 10% for December or February. Fed action is now off the table.

 There is a strong view that the ECB will be cutting rates in the fall. The numbers are slightly distorted at the beginning of the year since the ECB took further quantitative action which lowered rates in the spring. There was a clear jump in the last week. The ECB will support the EU.
The January probabilities are for a hike by the BOE. Since March there has been a switch to a rate cut and those probabilities exploded after the BREXIT vote. In an uncertain world, the only policy choice by central banker seems to be to lower rates through any means possible.

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