We are likely approaching the point where the squaring party triggered by USDJPY is starting to impact market pricing and sentiment in nonsensical ways, as deleveraging is ongoing, even if the dust has settled a little. Markets are pricing a small “insurance premium” for the September FOMC meeting, leaving more than 25bp in the forward pricing despite a week of mostly hawkish surprises last week.

Everything this week is about watching USDJPY price action again, as it has the potential to impact all assets.

Let’s have a look at the details.

FOMC meeting – No boat rocking from JPow

In June, the FOMC projections indirectly lowered the bar for a rate cut in September by presenting a more hawkish central projection, which increased the likelihood of a dovish surprise.

Currently, the unemployment rate is 0.1 percentage points above the central bank’s projections, while Core PCE inflation is trending approximately 25 basis points below the projection. However, with the recent PCE data released last week, this trend now appears to be closer to 10-15 basis points below the projection.

The advanced Q2 GDP report showed an annualized real GDP growth of 2.8%, which contrasts with the inflation and unemployment surprises, and is some 70 basis points above trend projections from the FOMC.

The predominant expectation is that the committee will set the stage for a rate-cutting cycle starting in September, but it’s unclear to which extent they can say something “new”.

Disrupting this narrative by either cutting rates this week or suggesting a more substantial cutting cycle would be counterproductive for the FOMC. Such actions could signal panic or imply that the Fed has insight into upcoming weaknesses in Friday’s job numbers, which is precisely why they are unlikely to take this course.

We doubt that the take-away will be dovish.

Chart 1a: FOMC forward pricing