Morgan Stanley called the debut of a new Fed chief a major risk to currency markets

The first meeting of the Federal Reserve under the leadership of Kevin Warsh in June may become an underestimated risk for currency markets and lead to increased volatility, analysts at Morgan Stanley believe. In their opinion, the new Fed rhetoric will change expectations on interest rates and force market participants to reconsider popular trading strategies.

The first Federal Open Market Committee meeting under new U.S. Fed chief Kevin Warsh in June is the "most obvious and underappreciated event" and a "key risk" that could shake currency markets, Bloomberg quoted currency strategists at Morgan Stanley as saying.

The dollar has remained relatively stable this year despite rising oil prices and falling global bonds amid conflict in the Middle East, Bloomberg writes. This increases the attractiveness of curry trading (buying currencies in countries with low interest rates and investing in higher-yielding instruments) and relative value trades (betting on the change in price between related assets), the agency says.

Any "hawkish" signals about the probable tightening of monetary policy from Worsh or updated forecasts of the Fed on rates can cause volatility and force traders to liquidate kerry-positions, note in Morgan Stanley. The most sensitive to such changes may be the euro, Japanese yen, as well as the Australian and New Zealand dollars, strategists believe.

The Fed may also surprise markets by continuing to hint at possible future rate cuts. But in any case, the dollar is able to react stronger than the markets currently expect, emphasize in Morgan Stanley.

Alternative measures of inflation may become more important to the Worsh-led Fed, and that could help lower U.S. government bond yields in the long run, according to Bloomberg rates and FX strategist Alice Andres. She noted that the Fed chief is focusing on the Dallas Fed Trimmed Mean index, which showed inflation at 2.35% annualized in April - much closer to the Fed's 2% target.

The risk of Worsh's arrival for the markets lies primarily in the growth of volatility, according to UniCredit strategists, quoted by Bloomberg. In their opinion, the Fed may become less predictable and less transparent in communication with the market, and the decision-making process - more susceptible to disagreements within the leadership of the regulator.

Warsh, formerly a member of the Fed's board of governors, took over as head of the U.S. central bank at a time when investors are carefully assessing the economic consequences of the war with Iran, Bloomberg writes. The conflict has led to a rise in energy prices and increased uncertainty around the further dynamics of inflation.

Swap market traders now estimate the probability of the Fed raising the interest rate by 0.25 percentage points before the end of the year at about 75%. Before the US-Iran conflict began in February, on the contrary, markets expected more than two rate cuts, Bloomberg recalls.

This article was AI-translated and verified by a human editor