Federal Reserve’s (Fed) actions are monitored by market participants worldwide due to the possible effect of those actions on markets globally. In the last few decades, inter-linkages between the markets have increased and so has the speed of inflow or outflow of money from one market to another.
Fed’s actions can result in US interest rates rising and thus investors moving from international investments towards US markets, resulting in strengthening of US Dollar. On the other hand, a reverse scenario in which US interest rates come down, investors pull their money from US markets and invest in higher yield markets elsewhere, resulting in US Dollar weakening against other currencies (Chaturvedi & Chandran, 2015).
With technology playing a big part in information dissemination and order execution, all these actions happen so quickly that everyone wants first access to information and fear that they would be left out.
So even the foreign market participants monitor the actions of Fed closely as such actions can directly impact their portfolios (Chaturvedi & Chandran, 2015).
The efficiency of market to factor in new information and market participants’ ability to take actions on the basis of such information is also the reason why the value of US Dollar changes even before the Fed meeting takes place and the policy is announced.
Market participants track for hints from officials, press conferences, market data, previous policy stance and outlook etc. so as to attain some knowledge of the action that Fed may take. Through this process, they aim to get ahead of other investors (Zeng, 2016).
This is the reason why we witness news information that US Dollar strengthens even before Fed meeting and announcement, due to expectation of a possible rate increase which would ultimately result in investors shifting their portfolios towards US markets (Morrison, 2016).
References
Chaturvedi, N., & Chandran, N. (2015). How does the Fed hike impact emerging markets? CNBC. Retrieved from http://www.cnbc.com/2015/12/16/fed-interest-rate-hikes-impact-on-emerging-markets.html.
Morrison, T. (2016). NZ dollar falls as US dollar strengthens before Fed meeting. Scoop Business. Retrieved from http://www.scoop.co.nz/stories/BU1603/S00490/nz-dollar-falls-as-us-dollar-strengthens-before-fed-meeting.htm.
Zeng, M. (2016). U.S. Dollar Strengthens Against Most Main Rivals. The Wall Street Journal. Retrieved from http://www.wsj.com/articles/u-s-dollar-down-versus-yen-after-two-days-of-gains-1455634756.
