The ongoing housing recession has led many to believe that the US economy is in the midst of a real economic recession, and the upcoming GDP report will go a long way to dispel or confirm such pessimistic sentiment.

APR 30 US GDP Annualized (1Q A) (12:30 GMT; 08:30 EST) FOMC Rate Decision (18:15 GMT; 14:15 EST)
Expected: 0.5% Expected: -25bps to 2.00%
Previous: 0.6% Previous: -75bps to 2.25%

What Are the Markets Facing?

The ongoing housing recession has led many to believe that the US economy is in the midst of a real economic recession, and the upcoming GDP report will go a long way to dispel or confirm such pessimistic sentiment. The median consensus forecast call for the slowest quarterly GDP gain since the fourth quarter of 2002, but it is important to note that most do not predict a negative GDP release. A below-zero print would almost certainly produce a bearish tone in the US, as it would be clear proof that the world’s largest economy is in a stage of contraction and would quickly feed into expectations for the afternoon’s Federal Reserve interest rate announcement. On the other hand, a reading in line with expectations isn’t likely to spark much reaction as traders will be anxiously awaiting the FOMC decision. According to a Bloomberg News poll of 72 economists, an overwhelming majority is in favor of a 25bp cut to 2.00 percent. Indeed, futures have generally been in favor of such a move since the last policy meeting, though for a time, the markets had considered the possibility of a 50bp reduction. However, the combination of stronger-than-expected CPI figures and hawkish comments from various FOMC members was enough to erase the probabilities of an aggressive cut to 1.75 percent. Nevertheless, economic conditions clearly remain very weak and are likely to get worse, supporting the case for additional rate cuts. Furthermore, credit conditions remain tight and financial institutions continue to writedown billions of dollars in losses. However, a 25bp reduction will not be enough on its own to take the wind of the greenback’s recent rally, and if the FOMC’s policy statement indicates a pronounced focus on inflation rather than credit conditions, the financial markets, or the economy, the US dollar could actually rally as traders rush to price the potential for a pause in further rate cuts for the rest of the year.

Bonds – 10-Year Treasury Note Futures

Treasuries have managed to hold above support at the psychologically important 115-00 level, but given the hawkish, inflation-focused commentary from various Federal Reserve officials we’ve seen lately, it’s no wonder the bonds markets are moving in favor of no change in interest rates on April 30. The contract could see significant volatility on Wednesday as Q1 GDP will be released in the morning, followed by the FOMC rate decision in the afternoon. However, the status of risk aversion may be the key factor to watch, as a sharp drop in the equity markets could lead Treasuries to rebound toward the 100 SMA at 116-15.

FX – EUR/USD

EUR/USD remains very heavy, and as we mentioned in the DailyFX FOMC preview, the “technical outlook for the EUR/USD pair reflects 5 waves down from 1.6018, confirming that an important top is in place.” However, the US dollar faces significant event risk on Wednesday as US Q1 GDP will be released, following by the FOMC rate decision in the afternoon. Uf GDP proves to fall negative, the pair could hold above support at the 50 SMA over the course of the morning. However, if GDP slows in line with expectations, price action for EUR/USD may be muted as traders will await the central bank news. The FOMC’s announcement could be pivotal, but a 25bp reduction may not be enough on its own to take the wind of the greenback’s recent rally. In fact, if the FOMC’s policy statement indicates a pronounced focus on inflation rather than credit conditions, the financial markets, or the economy, the US dollar could actually rally as traders rush to price the potential for a pause in further rate cuts for the rest of the year.

Equities – Dow Jones Industrial Average

The Dow Jones Industrial Average has retraced nearly 50 percent of the drop from 14,198.10 to 11,634.82, as the index managed to break above resistance at the 100 SMA last Friday as risk appetite grows. Indeed, the confluence of the 100 SMA and the 38.2 percent fib of the mentioned bear leg has formed a zone of support at 12,613/35. However, upcoming US news could lead the DJIA down for a test of this zone as the FOMC is likely to cut rates on Wednesday, but issue hawkish commentary in their concurrent policy statement. Furthermore, traders should watch out of the Q1 GDP reading earlier in the morning, as a reading that misses expectations could spark volatility as soon as the US markets open.

Terri Belkas is a Currency Strategist at FXCM.