Inside the Currency Market: Fed Minutes, What’s ahead, Fed Funds

Few interesting points from the Fed Minutes. The System Open Market Account or SOMA is the account used by the Fed to buy and sell bonds. The current account in thousands 4,213, 130, 992.20. Notes and Bonds 2,346, 581,744.20. The weekly change total was 11.4. On page 81 of Inside the Currency Market, I reported the figures for SOMA for July 7, 2010. In thousands, total SOMA 2, 054, 623, 672.5. Treasury Notes and Bonds 712, 023, 185.2. The weekly change was 163, 506.3. The Fed’s plan moving forward is to continue to replace maturing securities and not allow this account to fall. The vast majority of maturities replaced are found between the 2 -5 year.

The Minutes report the RRP is working as expected. And why not, its the Overnight Reverse Repurchase Agreement and created to steer the Fed Funds rate higher in 5 basis point ranges. This facility so far brought the FED Funds Effective rate from 0.04 to current 0.13. Its will be the method to see Fed Funds higher. The facility will go from Overnight to longer terms beginning at the end of the 2nd quarter.

Fed Funds will see a new calculation from a volume weigted mean to a volume weighted median.
More interesting is a new Bank Funding rate will be introduced next year. The Fed has been working on this project since the breakdon of Libor and its outlined in a paper. The new rate will be based on Fed Funds transactions and Eurodollar transactions for US banks. Note the line up of US interest rates. Headline 0.25, Fed Funds Effective, Libor, Repo. Then we begin pricing bond yields. Now we add another interest rate to the mix. Since the new rate will be used in Repos, my understanding so far and not exact is the new Bank Funding rate will be located between Libor and the Repo rate. What I see is US markets will slow. No longer will we see the volatility as we see today. Unless the Fed raises and distance exists between the various interest rates then volatility remains normal. I don’t see it because the central banks don’t want distance between rates. Its not so today and add another rate only compresses the distance between rates. The BOE is a good example.

Prior to 1996, the BOE worked on the Base Rate. That was the only rate available. To factor GBP/USD correctly, the Base Rate and USD headline and Fed Funds Effective calculated together. Then 1996, the BOE instituted a Repo rate. Then in 1997, Sonia was introduced. Today’s BOE line up is Base Rate, Libor, Repo and Sonia. The FED will have 5 rates to the BOE’s 4. The Eurozone will have 4 to the US 5. For G10 nations, the interest rate was employed purposefully to slow the speed and volatility of markets and exchange rates by closing interest rate gaps. For banks, its wonderful. For market volatility, its depressing. Interest rates follow each other in markets, they never create distance. Gaps in distance always close because interest rates are introduced with very close Standard Deviations Vs each other. Create 5 rates in US markets will only slow markets. Where would the BOE like to see GBP/USD prices. One month its 1.5800 then 1.5200 the next month. For the US, its different. The DXY trades in cents and its traditionally a slow mover. Add another interest rate, the DXY moves even slower. That should naturally slow the speeds and volatility of GBP and other currency pairs.

Note my list of important aspects to the Minutes. Its all about interest rates but further to control and fully manage the interest rate. Its the central banks way in the modern day as Keynesians control the ship. What’s the answer. Learn to trade pairs such as NOK, SEK, ZAR, TRY, RUB, NZD, AUD, INR, MXN. What;s the commonality? All nation use Repo Rates as their interest rates. Except AUD and NZD. Those pairs will always make traders money in good or bad times.

Brian Twomey Inside the Currency Market,

Inside the Currency Market: EUR/USD, USD/JPY, EUR/JPY

I haven’t read the Fed Minutes yesterday because I’m involved in another project. But judging by the comments and the fact that I’ve read every Fed minute going back to crisis years consecutively, the story remains the same. New excuses piled on top of a scared wiitless Fed to raise Fed Funds and a fed that wishes to maintain its Keynesian ways. On the economics side, its those that save money in bank accounts that lose. The average joe blow earns nothing but its the average joe blows that must spend to get these economies moving again. 1 and 2% GDP after 7 years since the 2008 crisis is just not good. The latest comments come from Korcherlakota. He’s worried because the Neutral Interest rate dropped. Does he mean the 20 year Fed Funds average at 2.70, the 22 year average at 2.88 that dates to 1992. His story doesn’t hold water as Fed Funds still closed yesterday at its normal 0.13. Distributions work like this. Short term rises bring long ends down and vice versa. We need that rate to jump to its next range point at 0.14 to give us a 0.13 – 0.14 interval. We closed at 0.14 4 times since June 5 but it hasn’t held. That should moved this EUR further down. But let this Fed renege on its promise to raise and the EUR will skyrocket because European interest rates are at bottom.

EUR/USD. 2 vital points to watch today, 1.1029 and 1.1003. Both must break below to see shorts get going. Then we target 1.0984, 1.0924, 1.0919, 1.0879, 1.0862. Above watch 1.1031 and 1.1048. Both are big breaks because then comes 1.1135, 1.1144, 1.1154. The larger picture is EUR/USD is in this giant neutral zone long term between 1.2218 – 1.1003. The break of 1.1003 begiins a new downtrend that has ability to take EUR lower. Shorter term, I reiterate, its the shorter term and middle of the curve that remains severely oversold. Opposite is USD that remains severely overbought in middle curves. Its a scary situation. But again, we must live in short and sell rallies mode. Short term traders, hit the above levels. Longer term, I would let this EUR rise and don’t chase longs and sell the rallies.

EUR/JPY. What’s driving EUR/JPY is the 100 day average at 133.90. Shorts must break below 133.90. The current range is found between 133.90 – 135.89. Point 135.89 is a dropping line. As long as this line drops and prices remain below then its short and sell rallies mode. To see 135’s, then breaks higher must be seen at 134.41, 134.67. Most important is 134.67 then targets next 135.31 and 135.52. But price remains in its 133.90 – 135.89 range, 199 pips. Below 133.90, targets 133.75, 133.24, 132.90. The big break below is found at 132.53. Correlations haven’t changed since yesterday, EUR/JPY Vs EUR/USD correlates 0.5 and 0.22 Vs USD/JPY. We’re coming closer to a break but its will take more trading days.

USD/JPY. Current price is found at 121.49. 2 points vital to next gains, 121.38 below and 121.69 and 121.84 above. Above 121.84, next 122.24 and 122.25. Breaks above, price is wide open to 123′ beginning at 123.32, 123.48, 123.73, 123.76 and 123.97. Below 121.38, then 121.12, 120.89, 120.76, 120.54, 119.91. Current price intraday is oversold, longer term price is fairly balanced and more oversold than overbought. If the Fed holds its promise to raise, USD/JPY goes higher and has every ability to see far higher prices. Current price has done a great job unwinding previous overbought. If we judge a tricky EUR/USD price Vs USD/JPY then we can see a far higher JPY which translates to a lower EUR. But one aspect is the DXY is miles overbought so cautious longs USD/JPY.

Brian Twomey, Inside the Currency Market,