* The FOMC’s statement must exceed expectations to push prices higher
* This means adding 2016 rate guidance or buying duration equal to or larger than ‘Operation Twist’ or both
* Aggressive language changes have had significant market impact for bonds and stocks, while recent balance sheet moves have had limited market impact
The FOMC statement on 13 September must exceed expectations to move markets significantly higher, we believe. Prospects favor a move close to expectations, but if Federal Reserve Chairman Ben Bernanke wants a big impact, he must look to exceed expectations. He has surprised markets before and he might do so again.
Our analysis of market reactions to recent unconventional easing moves by the Fed found that aggressive shifts in the rate guidance language had significant bond market impact. In contrast, recent balance sheet moves, which roughly met expectations, had a limited effect on bond prices. The equity market had a similar one-day reaction, but it was more likely to mean-revert over time. See Tables 1 and 2 for a summary of this analysis for 10-year Treasury note futures and the S&P 500. So bonds and stocks could both rise, in our view.
The Federal Open Market Committee would have to shift its guidance for the duration of near-zero rates to 2016 from late 2014 to exceed expectations, in the view of HSBC FI Research, as a shift to 2015 is already priced in. (See FOMC bond purchase decision key, 7 September 2012).
Alternatively, a new bond purchase program (see Preparing for more monetary stimulus, 11 September 2012) would need to exceed the monthly duration purchase pace of “Operation Twist,” USD46bn of 10-year Treasuryduration equivalents. A USD39bn monthly Treasury quantitative easing (QE) program (that followed the “Operation Twist” maturity pattern) would buy the same duration as Twist. Alternatively, a USD74bn monthly purchase rate for 3% 30-year mortgages would match Twist’s net duration; however,
more is needed if higher coupon mortgages are included.
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HSBC