The FOMC formalized the changes to its framework that Chair Powell discussed at Jackson Hole, but did not define its reaction function to the inflation objective. The rates market had an overall muted response while FX price action indicates that USD bears seemed disappointed by lack of assertive Fed communication on forward guidance.

Following up on the Fed’s new monetary policy framework, that targets average 2% inflation, today’s FOMC statement substantially strengthened forward guidance as they will not hike rates until, among other requirements, inflation has reached 2%. As the Fed’s economic projections do not show that happening until 2023 they effectively expect to remain on hold for at least three years. So if you have funds parked in a bank or money market account fund, which many do, and you want to earn anything the next three years, the Fed thinks you should take risks – i.e. interest rate, liquidity, credit or equity risk.

In terms of the former risk Fed Chair Powell refused to commit to forward guidance that would affect interest rates out the curve, which means interest rate risk is real. Relevant for credit risk Fed Chair Powell stated for the emergency lending programs that “When the time comes, after the crisis has passed, we will put these emergency tools back in the toolbox.” We take this to mean that these programs – including the PMCCF and SMCCF – again get extended beyond December 31, 2020, but of course will be switched off long before the Fed starts hiking rates. Not that this matters because the actual purchases are super small. What matters is that, not surprisingly, these facilities will remain in the Fed’s toolbox thus providing permanent backstops for the corporate bond market. This serves to sharply reduce refinancing risk for IG rated US companies and credit and liquidity risks for IG corporate bond investors.