Watching the Fed? Trade it Instead.
Since the Fed opted not to raise interest rates in September, expectations for a December hike have fluctuated dramatically. You can find a variety of trading opportunities based on how various markets might react to the Fed decision. On Nadex, you can also trade the Fed Funds rate itself.
By Vikram Rangala
Wednesday, November 16, 2016 - 00:00
Prior to the US election, many analysts predicted that economic uncertainty might cause the Federal Open Market Committee to decide against raising the Fed Funds rate, despite numerous signals earlier in the year.
The bread and butter of monetary policy is the central bank’s ability to cut interest rates to make it easier for companies and investors to access capital. But as the Bank of Japan and ECB are finding out, once you get to zero (or below) you run out of cuts and thus, your power to help your country’s economy out of difficulty.
The Fed was able to help the country back from recession with a series of quantitative easing measures that took rates down to zero percent from December 2008 until December 2015. Part of the Fed’s caution this year is because raising rates in a fragile economy could cause harm which the Fed would have little power to undo, since it has so little room to lower rates.
Some of that caution may have dissipated since the election, with St. Louis Fed President James Bullard saying the U.S. economy could get a medium-term boost if the incoming administration increases infrastructure spending and reduces taxes.
Fed President Patrick Harker spoke on Wednesday and Fed Chair Janet Yellen will testify to the Joint Economic Committee of Congress on Thursday. Their remarks may give more insight into the Fed’s mood going into December.
Meanwhile, yields on US Treasuries hit their highest level of the year this week, up more than 40 basis points since Election Day. The conventional wisdom is that the bond selloff is based on expectation that the Fed will boost rates.
The rise of the US Dollar Index and the value of dollar-denominated commodities added to the pressure on bonds. US Treasuries are, after all, priced in dollars and if dollar strength continues in 2017 and beyond, one possible outcome is that bonds will remain in decline as inflation increases towards and beyond the Fed’s two-percent target.
Fed Funds futures contracts, a rather esoteric product traded mainly by large, sophisticated institutions, are predicting a 94% chance of a December rate hike, up from 68% in early November. That’s one measure of opinion. It’s also something individual traders cannot easily access or trade.
You can, however trade Fed Funds on Nadex, using binary options. For less than $100 a contract, you can take a position on what the rate will be after the Fed’s December 14 decision. It is an affordable way to trade a number which affects us all, but which, up to now, few people have been able to trade on a regulated exchange.
Moreover, it’s a great way to trade the number itself rather than the reaction of a particular market to the Fed’s decision. The outcome is by no means certain and that’s what makes it a challenging and interesting trading opportunity. Remember that before November 8, some pollsters gave one candidate about a 94% chance of being elected. And we know how that turned out.
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