Summary:

• Federal Reserve keeps interest rates unchanged, a rate hike next month virtually a done deal
• Chinese stocks plummet as a trade war comes back to the fore while liquidity conditions in Hong Kong tighten
• US dollar reinvigorates as risk-off spreads over markets again

In line with expectations the Federal Reserve kept settings of its monetary policy untouched exerting just a little impact on the greenback. The statement was really short and succinct and compared to the previous one no many changes might have been noticed. Anyway, there was an alteration regarding household spending as the Fed described that it had “grown strongly” instead had “picked up” in a statement published six weeks earlier. In August the Fed said that economic activity had been rising at a “strong” rather than “solid” rate. In turn, when it comes to the unemployment rate the US monetary authorities said yesterday that it had “stayed low” compared to “declined” previously. As far as risks to the economy are concerned the central bank kept its rhetoric arguing that they had remained roughly balanced.

What conclusions can we draw? The meeting in August turned out to be a non-event as it had been broadly expected. The Federal Reserve is equally widely expected to lift interest rates in September which will be the third move this year. Notice that the probability of such a move next month hovers around 93% this morning based on OIS rates. Moreover, market participant are now pricing in the fourth rate hike in December in 55%. The initial move on the greenback following the decision was slightly to the downside albeit a reaction was really tepid to say the least. Shortly after the Fed’s communique markets’ attention was again paid to the trade war thread when we were given a confirmation that Donald Trump had ordered Lighthizer to consider a tariff increase on Chinese imported goods ($200 billion) to 25% from initially proposed 10%. That said, it is just a proposal and there is quite a long way to go through to have this change implemented.

The EURUSD keeps moving within its broad consolidation. Once trade-related risks mount again, it could be USD supportive that is why we are seeing the stronger buck this morning (do not think that it was sparked by the Fed itself). Source: xStation5

Meanwhile, Chinese stocks are experiencing a truly gloomy day plunging across the board. A quarter before 7:00 am BST the Shanghai Composite is falling as much as 3% while the Hang Seng (CHNComp on xStation5) is declining 2.5%. These heavy falls might be, at leas in part, ascribed to the trade spat between the US and China which has come to the fore lately (neither country wants to back down). On top of that, this is the highly unpredictable risk factor, and it was acknowledged by the monetary authorities in Hong Kong. Another possible reason standing behind relative underperformance in stocks in Hong Kong could stem from the shrinking money stock as depicted at the chart below.

Shrinking liquidity in Hong Kong could have weighed on local equities. Source: Bloomberg

As one may spot, the relationship between money supply growth and the Hang Seng is quite striking. Hence one may suppose that the latest leg lower might have been exacerbated by lowering money supply growth as it could have put upward pressure on interest rates and therefore reduced stocks’ appeal to some extent. Either way, the latest rebound seen in the Hang Seng seems to have been just a dead cat bounce rather than the beginning of a long-lasting upward leg. Currently the price is heading toward its crucial support which might be tested again before long.

The Hang Seng continues dropping following a possible dead cat bounce. Source: xStation5