As the markets wait for one of the most anticipated Federal Reserve meetings since the financial crisis, volatility and trading ranges have dwindled to little more than a price quote.
Euro has moved in a 28 point range, 1.3385-1.3413, since yesterday's value date change. Dollar/Yen has managed 83 points, 94.84-95.67, but for the past nine hours it has been restricted to 40 points and for most of the time, to barely more than 10 points. Sterling, Dollar/Swiss, Dollar/Canada and Aussie have all varied less than a figure overall and in the New York market their ranges have shriveled to 20 points.
Fed Chairman Ben Bernanke deliberately invited market speculation that the end of quantitative easing was approaching when he said last month that the central bank could taper its bond purchases over the next several FOMC meetings.
The credit markets have taken the Fed Chairman at his word, or rather implication, pushing the yield on the generic 10-year Treasury as high as 2.23%, a 60 basis point gain since early May.
The equities markets have reacted quite differently. U.S. stocks have ignored Dr. Bernanke's warning, the Dow reached its record on May 28th after the Chairman's comment. Equity traders seem to believe that the Fed will not dare risk the chief demonstrable success of its quantitative easing experiment, a roaring bull market in shares.
Currency traders have shaded their bets to the equity side with a weaker dollar but without much conviction. The euro has gained 4.7% against the dollar since mid-May, but it is short of the high for the year of 1.3711 and well below the 2011 top of 1.4940. The dollar/yen scored a multi-year high in May at 103.21, which helped to hold down the euro, but movement in the yen was dominated by Japanese government policy.
Can falling bond prices and rising yields continue to co-exist with strong equities and a diminishing dollar? Can the separate markets continue their contradictory interpretations of Fed policy?
The markets are telling us that the probabilities on Fed policy are evenly split. The one high probability outcome is the imminent return of volatility.
Chief Market Strategist