Will Yellen Restore Risk Appetite?
While investors are eagerly awaiting Janet Yellen’s testimony today before the Senate Banking Committee, the sell-off in currencies, equities and Treasury yields indicate that risk aversion is the overriding theme in the financial markets this morning. A smaller decline in durable goods orders helped to ease the selling but with jobless claims rising, the relief rally in USD/JPY and other major currencies was limited. Durable goods orders fell only 1% in the month of January compared to a forecast of -1.7% but what made the report positive for the greenback was that excluding transportation orders, durable goods rose 1.1%. After the sharp decline in December, investors were really hoping for a rebound in January and even though there was a large pullback in transportation orders, demand for other goods improved significantly – a sign that confidence could be improving in the economy. Meanwhile the 14k increase in jobless claims is discouraging but not overly concerning because on average, weekly claims have been very low. Instead, investors are worried about the political conflict in the Ukraine and the renewed weakness in emerging market currencies.
The only hope for a recovery in risk today lies in the hands of Janet Yellen. The tone of her testimony will either exacerbate or ease the selling in the forex market. Based on the decline in U.S. Treasury yields and steadiness of U.S. equity futures investors don’t expect any particularly damaging comments from the brand new head of the Federal Reserve. We know that she is thinking about changing forward guidance but with 3 more weeks to go before the next FOMC meeting and the release of another non-farm payrolls report, we doubt that she will jump the gun and share her plans on changing monetary policy before the entire committee convenes and discusses their options. Lets not forget that Janet Yellen has yet to chair her first FOMC meeting. She’s obviously been intimately involved in past decisions but there’s absolutely no benefit to front running the FOMC. We believe that Yellen’s comments should be more beneficial than detrimental to the dollar and risk. Some investors may be hoping that Yellen would acknowledge the recent weakness in U.S. data using it as a justification for keeping monetary policy easy for a longer period of time but chances are that like many of her peers she will downplay the reports, attributing the weakness to temporary factors which would be positive for the dollar and risk appetite.
We only heard from Yellen 2 weeks ago and we doubt that her views have changed significantly since then. At the time, she did not say anything new about the economy or monetary policy. Her promise of continuity and taking “measured steps” in reducing stimulus was well received by the market. She shares Bernanke’s optimism about the economy, frustration with the unemployment rate and lack of concern about the swings in emerging markets. Yet Yellen refused to commit to any changes before the next Fed meeting, choosing instead to say there is no preset course for bond purchases and tapering. Changing the unemployment rate threshold remains a possibility in March but as an experienced central banker, she knows there’s no benefit to front running the FOMC.