The market anticipates a 50bps increase in May. There’s more than an 80% probability for the increase to be the same as at the beginning of the Fed's balance sheet reduction program. The reduction is estimated to reach $90 billion monthly.
Even the most dovish FED officials support a radical change, as stated in their public interventions. The goal is to reduce inflation at all costs with interest rate increases that could push the FED funds rate above the 2% level in 2022. This is the minimum the market is beginning to discount, considering that the US 10-year bond yield has already reached 2.66%. It could continue up to 3% if the Federal Reserve decides to sell bonds from its balance sheet following their May meeting.
In the foreign exchange market, this reflects in the strength of the US Dollar, which benefits from the highest interest rates, especially against the Japanese Yen, which is already approaching the high of 124.50. If exceeded, it will not find any major resistance until the 135 area.
In addition to the conflict in Ukraine, stock indices are being negatively affected by this additional tightening of interest rates. The market is wondering how far these corrections can go and how much current prices already include the expected increases in interest rates.
April is usually a positive month for the markets. Next week, the earnings season begins for the major North American companies, so a rebound from these levels could leave a more positive technical scenario.
Something that can lighten the weight of investors is the fall in Oil prices.
To a large extent, inflation stems from higher energy prices, so a deeper drop in Oil prices could herald an improvement in inflation data. This would likely cool the FED's determination to tighten financing conditions drastically. Oil has dropped to major support at around $94.75/barrel, which, if broken, would pave the way to the mid-$80s area.
The Nasdaq index has technically already experienced a downward correction that has taken it to the 38.2% Fibonacci retracement of the last leg up. It has bounced back strongly, so the 14,376 points level can be considered a reference one.
Sources: Bloomberg.com, Reuters.com