FOMC Minutes analysis NOW we get the dovish hike

It’s a bit hard to recall in the constantly-changing-by-the-minute markets, but way back in December 2015, traders and analysts were widely anticipating a “dovish hike” from the Federal Reserve. The US central bank was eager to get off the 0% lower bound for interest rates, but was widely-expected to emphasize that it wasn’t going to embark on an aggressive series of rate hikes like it had in the past.

As it turns out, this thinking eventually got baked into the market, to the point that when the Fed finally did raise interest rates and express a desire to do so “gradually” moving forward (i.e. Every other meeting in 2016, according to the infamous “dot chart”), it actually struck the market as a bit of a hawkish surprise.

Now, with today’s release of the minutes from that historic meeting, we found that the decision to raise interest rates was more contentious than expected. See highlights from today’s minutes below (emphasis mine):

• SOME FOMC MEMBERS SAY LIFTOFF WAS A ‘CLOSE CALL’
• SOME MEMBERS STRESSED THE NEED TO SEE INFLATION RISING
• SOME SAW ‘CONSIDERABLE’ RISK TO INFLATION OUTLOOK
• SOME FED OFFICIALS SAW LOWER UNEMPLOYMENT RATE UNLIKELY TO STIMULATE PRICES
• RISKS TO INFLATION INCLUDED OIL AND STRONGER DOLLAR
• FED TO CAREFULLY MONITOR ACTUAL AND EXPECTED INFLATION PROGRESS
• MANY OFFICIALS CONCLUDED LONG-RUN INFLATION EXPECTATIONS STABLE
• FED OFFICIALS SAW SEVERAL REASONS ‘GRADUAL’ HIKES LIKELY APPROPRIATE

As ever, the central bank is intentionally ambiguous about how many (and which) members expressed doubts about the policy decision, but it’s clear that a meaningful number of Fed policymakers had mixed feelings about liftoff and the (assumed) potential for several more rate hikes this year. In other words, the December Fed meeting delivered the “hike” half of the expected “dovish hike,” but traders had to wait until today’s minutes for the “dovish” portion.

No monetary policy changes are expected at this month’s Fed meeting (January 27), but traders should closely monitor the Q1 economic data to help handicap whether Fed will raise interest rates again in its March meeting; as of writing, Fed Funds futures traders are pricing in a 51% chance of a hike at that meeting, according to the CME’s FedWatch tool.

Market Reaction

The market’s reaction confirmed the initial dovish view of the minutes. The US Dollar index ticked down by about 0.2% in the immediate aftermath of the release (though much of that move has since been reversed), taking EUR/USD back up to test key short-term resistance at the 1.0800 level. Meanwhile, yields on the benchmark 10-year treasury bond were essentially unchanged at 2.19% with the short end of the yield curve ticking lower. US equities barely budged from their daily lows, with WTI hitting new lows beneath 34.00 and gold holding steady just below the 1100 barrier.