Fed watch: Yellen adds fuel to the USD fire

Chairwoman of the Federal Reserve, Janet Yellen, has opened the 2014 Jackson Hole conference of central bankers and the dollar bulls like it. The dollar index is set to close the week at its highest level since September 2013, even though Yellen didn’t drop any hints about what the Fed plans to do once it finishes its tapering programme in October.

Instead, the market seems to be jumping on the back of the uncertainty surrounding the labour market indicators that Yellen mentioned in her speech. The market seems to perceive this indecision to be a subtle shift away from the ultra-dovish stance Yellen has taken in the past.

Perhaps the most important line from her speech was the following: faster progress on goals may bring a rate rise sooner than the market expects, while weaker progress could see a rate hike get delayed. This suggests that the FOMC could be more balanced, and some of the more dovish members are considering the potential for a rate rise after Non-Farm payrolls have posted gains of more than 200k for six consecutive months.

In the past, central bankers have used the opening Jackson Hole speech to announce a change in policy. Yellen’s first speech as governor was much less dramatic; instead she focused on the challenges ahead, and reminded her audience that “monetary policy is not on a pre-set path”.

Thus, as we end another week we are no closer to knowing what the Fed will do after the end of tapering, which should be completed in October. Instead, all we know is the Fed are looking at measures of slack in the labour market, and are unsure about how much slack there actually is.

Janet Yellen has taken the BOE’s line and hidden behind the fuzzy concept of “slack” to stave off having to make a decision about the timing of a rate rise. The market has taken to calling BOE Governor Mark Carney an “unreliable boyfriend” in relation to this policy stance, Yellen could be about to join him.

From a market perspective, the biggest reaction has been in EURUSD. The weekly close below 1.3249 – the 32.8% Fib retracement of the July 2012 – May 2014 uptrend, is significant as it makes it harder for the single currency to recover and opens the door to 1.30.

We will be looking to see the USD extend gains next week, and now that the market is less sure about Yellen’s dovish credentials we could see stocks suffer from here.