The Daily Update - Fed, 5 year auction, Qatari banks

As widely anticipated, the FOMC left interest rates unchanged with all nine voters in agreement. Some comments were of note, on the balance sheet the central bank said, ‘the Committee expects to begin implementing its balance sheet normalisation program relatively soon, provided that the economy evolves broadly as anticipated’. This is a small change from ‘later this year’ which was the previous language. Essentially, this leaves the consensus market view that a ‘tapering of investment’ announcement will be made at the September 20th meeting, the next time the Fed meet.

Also on the outlook for inflation and growth their view appears sharply unchanged and said it 'expects that economic conditions will evolve in a manner that will warrant gradual increases in the federal funds rate', adding, 'the stance of monetary policy remains accommodative, thereby supporting some further strengthening in labour market conditions and a sustained return to 2 percent inflation'. The statement described the risks to the outlook as 'roughly balanced', and that inflation developments are being 'monitored closely.' Interestingly, the next rate hike to carry a probability of 50% or more is now March 2018, with December at just 44.5%.

About an hour before the Fed announcement we saw a 5-year US Treasury auction which went amazingly well, with indirect bidders being awarded 69.8% of the issue; the second largest ever indirect award on record. Indirect bidders include asset managers, hedge funds, foreign central banks, domestic money managers and other financial institutions, that can bid for paper on a non-competitive basis. The US Treasury will accept all non-competitive bids and then competitive bids in order of increasing yield. The higher level of bids pulled yields lower causing a rally across the yield curve, leading up to the Fed meeting announcement. This move sparked a similar rally in European sovereigns this morning with German 10-year yields down 4.1bps, and even the Gilt market fell 3.7bps early in the trading day.

Elsewhere, one of the concerns expressed - after the Saudi-led alliance decided to alienate Qatar - was the situation Qatari banks would find themselves in. Yesterday it was announced that Qatari banks’ foreign deposits in June fell to Riyals 171bn from 185bn in May, (a drop of around Usd 3.8bn). However, June’s local deposits went up Riyals 22bn, up to Riyal 600bn in total which we presume comes from repatriation by locals as well as liquidity from the government sector. We had already been tracking Qatari short rates to try and get a feel for the impact on the banks from the situation and any stress balance sheets were under. However, short rates have really shown very little funding pressures, we now have the reason, repatriation has offset the outflow from foreign depositors, easing the situation in the banking sector.