As noted in our overnight wrap, markets have so far reacted very favorably to Yellen’s “hawkish” speech, which according to some provides a much needed offset to the FOMC’s unhawkish hold from last week.

There are two glaring problems with this assessment: first, as Bloomberg notes citing treasury analyst Marty Mitchell “markets have reacted as if they just received an epiphany although the Fed Chair really didn’t say too much that she hadn’t already said in the post-FOMC press conference, in our opinion.”

But the bigger problem is that Yellen just reset the market’s expectations, and in fact set the bar for disappointment even higher. As FTN rates strategist Jim Vogel very correctly notes, “financial market risk is calmer this morning, but Yellen actually elevated the stakes with her detailed speech yesterday afternoon.” 

What does that mean? He explains: “Yellen could be spot on this year but until the hike actually occurs, risk asset volatility veers once again to the upside with respect to US monetary policy.”

He adds that “markets already were prepared for one hike this year, just not confident it would happen,” and “now that the Chair has spiked the football, it reduces nerves early this fall while setting up a potentially nasty result if the Fed again slows the rate trajectory in the winter.”

Remember, the winter is when the US economy has, each of the past two years, dramatically slowed down, so much so that the BEA was forced to introduce a “double” seasonal adjustment to the GDP calculation to “smooth” out the weather contribution. To be sure, with the December rate decision taking place one week before the holiday week, will the Fed risk an adverse reaction just ahead of a most critical week for retailers… especially if there is 6-12 inches of snow outside.

For those confused, here is a simple summary of what is going on:

Yellen aside, Vogel’s observes that “today will set a tone for the beginning of next week which sees a long list of critical August and September econ data readings along with quarter-end flows for one of the most perturbed quarters in the last four years (and setting that volatility mark was no small feat).”

Good luck Fed: as we saw yesterday quite conclusively toward the end of Yellen’s speech, the pressure of micromanaging the world’s biggest economy are clearly catching up to the Fed Chair.

As for what the market really thinks, odd for a December rate hike were 41% just before Yellen’s speech. Where are they now? 47%.

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