Forward Guidance Now Drives Dollar Volatility Under Powell
The Federal Reserve's (Fed) policy statements have lost their grip on dollar volatility under current leadership, according to recent analysis. Research suggests that forward guidance has become a more significant factor in shaping currency markets, particularly during times of policy shocks.
A study of three decades of FOMC meetings found that forward guidance explained roughly 21% of same-day USD variance in the past. However, this percentage increased significantly under Janet Yellen's tenure to almost 39% of daily variance. Under Jerome Powell, the significance of forward guidance collapsed, and both factors became insignificant.
The study also reveals a shift in volatility drivers over the last 21 meetings since early 2024. The change in Overnight Indexed Swaps (OIS) now accounts for around 62% of USD variance, suggesting that market pricing of the terminal rate is heavily digested during live Q&A sessions.
Derivative traders are advised to shift their focus away from initial policy statements and towards intraday changes in OIS and live press conferences. The analysis suggests that executing short-term currency options can capture late-day volatility rather than early-minute spikes.