What is FOMC?

What is FOMC? FOMC stands for the Federal Open Market Committee. It is a key component of the United States Federal Reserve System, responsible for making important decisions regarding monetary policy.

The FOMC consists of 12 members, including seven members of the Federal Reserve Board (the central board of governors) and five presidents of the Federal Reserve Banks. The Chair of the Federal Reserve serves as the Chair of the FOMC.

The Committee conducts eight meetings annually, and these gatherings are closely monitored by everyone due to the significant influence their decisions have on financial markets.

During these meetings, the committee assesses the current state of the economy and then determines the most suitable monetary policy course of action. This may involve deciding on interest rate adjustments, either raising or lowering them, or considering measures to expand or contract the money supply.

They achieve these objectives through various means, including currency supply, setting regulatory guidelines for banks, and most notably, providing loans to banks and determining the interest rates for those loans. As banks subsequently lend this money to businesses and individuals, the lower the interest rate, the greater the amount of lending and money circulation. However, when the Fed increases interest rates, banks also raise their rates, leading to higher borrowing costs for regular people. Consequently, they become less likely to secure loans and less inclined to spend, granting the Fed considerable influence over the money supply.

The Federal Reserve also establishes the reserve requirements for banks, and a lower requirement results in more money circulating in the economy. Additionally, the Fed sets the interest rates at which banks lend to each other; when these rates are lower, banks tend to borrow more from one another, leading to an increase in the money supply. Conversely, higher interest rates discourage borrowing among banks.

Furthermore, the Fed has the ability to influence the money supply through the purchase and sale of government bonds. When the Fed buys bonds, it increases the money supply, leading to a decrease in interest rates. Consequently, if a large number of government bonds are purchased, there will be a substantial increase in the money supply, resulting in lower interest rates. Conversely, when the Fed sells bonds, it withdraws money from circulation, causing interest rates to rise. This practice is commonly referred to as quantitative easing.

As the money supply increases, inflation tends to rise as well. Inflation refers to the general increase in the prices of goods and services. When there is more money circulating in the economy, it drives greater demand, leading to higher prices. Therefore, the Federal Reserve must exercise caution when injecting money into the economy to avoid excessive inflationary pressures.

Importance of FOMC in trading

The money supply directly influences spending, which, in turn, has significant impacts on the economy. This creates an inverse relationship between stock prices and interest rates.

When interest rates increase, people become less inclined to borrow money, leading to reduced spending. Moreover, individuals with money are more likely to save it in the bank due to higher interest rates, leading to a decrease in spending. Consequently, the economy slows down, usually resulting in a drop in stock prices. Conversely, when interest rates decrease, obtaining loans becomes easier, encouraging more spending. Additionally, those who have money in the bank are less likely to save it, as the returns on interest are not favorable. This increase in spending boosts the economy. and usually causing stock prices to rise accordingly.

Indeed, there is an inverse relationship at play here. When interest rates decrease, stock prices tend to rise, and when interest rates increase, stock prices tend to go down.

Due to this relationship, it is crucial to approach FOMC meetings with caution. It’s essential to closely monitor the market during those dates because if there is no anticipation of an interest rate hike, and the FOMC surprises by deciding to increase interest rates, stock prices are likely to fall. Investors may react negatively to the higher interest rates, causing stocks to lose value as they were previously priced based on lower interest rates.

How to watch out for FOMC meetings?

economic calendar

As traders, we rely on economic calendars to keep track of significant events such as FOMC meetings, which are often marked as high volatility events. It’s essential to monitor these calendars regularly as part of our daily trading routine. Checking the calendar before each trading session is a must to stay informed about potential market-moving events. Bloomberg and Trading Economics are examples of reliable calendars that provide valuable information for traders.