Fed Monetary Policy 2015

The original intent of this article was investigation to 2015 months reported as momentous changes occurred to EUR/USD in each month. Two questions existed and overall this was done for personal purposes and the questions regarded strategy and new Realignment concepts. I’ve written much in regards to realignment yet much more could be written but done in another article as the information is lengthy. Overall, a change in monetary policy especially as it relates to interest rates such as Yellen in January 2015 results in a Realignment and a multi month or possibly a multi year trade for 1000 pip clips in each trade. While 1000 pips represents only one side to the trade, Realignment allows for 1000 up and 1000 down.

Further defintions as additions and subtractions to market developments must be understood as an expanded version to true currency market realignment. Currency markets Realign only to the extent underlying developments allow a wholesale market change. In the June 2016 article “2016 Currency Market Realignment”, it was written ” a 1000 point move was upon us”. Despite a prescient assessment as EUR/USD dropped in June 2016 from 1.1400 to 1.0300’s in December, actual market realignment / market changes occurred in January and February 2015 as well as March and October 2015. Trading strategy from 2015 realignment reveals a continuation exists into 2018 provided 2015 assessments hold.

January 2015 market changes while fed funds traded 0 to 0.25 was the introduction of Overnight Repos with plans to assess longer term durations. As a new introduction to Monetary Policy as viewed by an additional Deposit rate, the Fed Board considered this development as the path to future rate rises as well as the path to interest rate normalization.

As Keynesians dominated the Fed Board to exclude Lacker’s January appointment, Fed Funds would rise only if it was held inside the 25 basis point channel to the buy and sell points in Repo rates. The question to raise was assured and argued throughout 2015 but only upon accompaniment of ability to control the 25 point channel.

By March 2015, Overnight Repo tests were successful and raise to Fed Funds was a question of when, not if. The last detail to the March statement was ensure overnight Repo transactions would materialize longer term against absolute certainty the 25 point channel would hold. It did.

The issue to spread was addressed many times as the Fed had every ability to set the channels as they desired. The concern from 0 to 1 /4 Fed Funds on the low side was fear Fed Funds could trade to negative against concerns on the high side to raise to high, to fast. The Fed settled on 25 after much debate but the success of longer term repo tests and market participation sealed 25 as the final number.

Never would non free market Keynesians allow Fed Funds to free float to allow the market to decide its price. Supply sider belief in markets would view Keynesian normalization as non normal as well as to the full control of Fed Funds and channels. Lacker was not only a consistent no vote throughout 2015 but he was the lone no vote. Jay Powell voted 100 % with the Keynesians.

The second monetary policy issue to January’s Repo developments was the Fed changed its holding period in its FX portfolio from 18 months to 2 years. The Fed’s FX portfolio is held and traded through the 1934 creation of the Exchange Stabilization Fund.

Open position limits are held by Exchange rules at $25 billion to exclude DXY. Further rules include no more than $300 million accumulated on any day in 1 currency and no more than $600 million from central bank meeting to meeting. Meeting to meeting is defined as 30 calendar days. Accumulations in 1 currency begin at $150 million. Foreign Currency Denominated Assets are held either less than 3 months or more than 3 months but less than 1 year.

The Fed in 2015 in EUR and JPY holdings were minus $2.9 billion against investment income at $41.5 million. A $2.9 billion loss was enough to bankrupt every retail currency broker in the United States and its the reason the Fed trades through “selected banks”.

Currencies in the Exchange Stabilization Fund are 14: AUD, BRL, CAD, DKK, EUR, JPY, KRW, MXN, NZD, NOK, GBP, SGD, SEK and CHF.

Lacker again voted no to the extension of holding periods as he viewed the polcy change as Fed intervention. Intervention perspective from the Fed is ability to extend Swap Agreements to those currencies in the fund for longer time periods. The Fed then increases its position as Financier to foreign governments. United Nations payment for Dues membership is paid from the 4th Quarter to January for most nations as this tme is vital to nations to borrow in US Special Drawing Rights, the SDR.
MXN for example since NAFTA in 1994 is afforded a standard $3 billion Swap Agreement. Further, the Fed in January was preparing a raise while December 2014, the SNB dropped the EUR/CHF floor, the ECB expanded QE purchases, the SNB dropped interest rates as well as AUD, CAD, DKK, INR and TRY.

The US Exchange fund in 2015 held Cash and Cash equivalents in thousands at $5,793, 812 Vs September 2016 at $7,051, 950. JPY holdings in 2015 were $2, 577, 671 and $4,706, 992 for September 2016. Cash and Cash Equivalents are defined as US government short term securities usually 3 months or less and Foreign Currency Denominated Assets to include most, most important deposits and securities denominated in Euros and JPY. The 2017 reports yet to post as of this writing.

The last aspect to realignment and policy change is September failed as the raise month due to fear by the board of an “Inflation Buildup”by a raise but also because September is the yearly time to review proposed investments to include currencies.

October was a momentous month for policy as this began the Fed debate to Natural, Neutral or Equilibrium interest rates and the fact the Natural interest rate for many economies declined over the past 25 years. Under a decline in the Natural rate, I viewed as a forward conditioning effect as the Board questioned how far and how many raises to consider in the future. The concept to Fed Funds lower for longer and under the Natural rate despite any raises was the message and it continues today. The main aspect to the overall October debate was Repo Spreads narrowed and overall market participation was low.

More important to Fed policy was the IMF’s October / November 2015 introduction in its new 5 year review of the SDR and inclusion of China and Yuan in the new basket of 4 currencies. The effective date was October 11, 2016 as Yuan became the 5th most imporatnt currency alongside EUR, DXY, JPY and GBP.

Renmimbi as CNY is representative of the currency but in SDR terms, its the Yuan and expressed as a unit. The Yuan’s interest rate was introduced at 2.048200 and trades today 3.499200. As SDR, Yuan traded 0.108156 and today, 0.107566.
DXY in SDR’s dropped $28 billion in 2015 against its $35.9 billion holdings, cash equivalents of $50.3 million and interest income of $71.3 million.

SDR Weights were changed at DXY 41.73% from 2010 41.9%, EUR 30.93% from 37.4%, JPY 8.33% from 9.4%, GBP 8.09% from 11.3% and Yuan began 10.92%.

JPY is an extraordinarily minor currency pair yet its prominence and reason for special attention derives from its positions in the ESF as well as the SDR, the Special Drawing Right. As EUR/USD is most widely traded, the preeminent pairs in currency markets yesterday, today and decades in the future are USD/JPY, EUR/USD and EUR/JPY.

Brian Twomey


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