The base case for the FOMC is quite straightforward:

  • A taper announcement,
  • QE to finish around the middle of next year,
  • No interest rate hikes until QE has done.

However, the decision tomorrow is not. Here is the Fed’s problem. Inflation is rising globally and growth is showing signs of slowing. See this excellent graphic courtesy of Nordea markets.

So, what is the Fed going to do? Move interest rate hike expectations along sooner? Eurodollar futures are certainly thinking so, falling sharply in the month of October recognising the prospect of rising rates.

However, how do you control inflation driven by supply chain issues? Answer- Not by rising rates because you then hinder growth. This is the ‘stagflation’ environment. So, what do you do – ride it out? But for how long? You see the problem.

The trade

The obvious trade would be if the Fed are more dovish than the market are expecting. If the Fed push back against the eurodollar futures rate pricing then yields should drop, the USD should drop, and gold should rise sharply higher.

A trickier trade would be if the Fed surprises with a hawkish tilt – faster end to QE, rising rates alongside QE etc then gold should dip lower. However, dip buyers would be attracted by the prospect of a coming inflationary environment and that will benefit both the CHF and gold over the medium term. See gold for some key levels below.