USD, EUR, JPY, GBP, CAD, AUD, NZD: Weekly Outlook - Morgan Stanley
USD: Trade-weighted Strength. Bullish.
Dollar divergence continued in 2016 with the broad TWI performing well but DXY up only slightly, due to large weights in outperformers EUR & JPY. While GDP looks to have finished 2015 on a soft note, we think underlying resilience is evident in last week’s impressive employment report. We expect most important elements of the economy (employment, services, housing) to continue to hum along just fine. The US will remain the ‘best house in a bad neighbourhood’ and will attract capital flows from abroad. However, expect less strength against EUR and weakness versus JPY given global asset volatility.
EUR: Don’t Expect Much from ECB. Neutral.
We expect a range-bound EUR over coming weeks as downward pressure from negative rates and reserve manager selling is offset by EUR-supportive deleveraging flows. European political risks further complicate the picture. Next week we expect few fireworks from the ECB following the additional easing measures introduced in December. Over the course of the year, EUR should continue to weaken versus JPY on negative rates, valuation and domestic policy shifts.
JPY: More to Come. Bullish.
Our bullish JPY view appears to be playing out even faster than we expected. Weak risk appetite has supported repatriation to the safe haven JPY. More than that, we think there is an underlying policy shift in Japan away from monetary and toward fiscal policy. The BoJ is unlikely to ease further, with greater focus being placed on fiscal stimulus and encouraging corporates to pay higher wages and invest onshore. We think the market underappreciates the potential for pension liquidation by the retiring Japanese population, which will force some repatriation of foreign assets and make flows more two-way than in recent years.
GBP: Major Headwinds. Bearish.
There are a number of headwinds weighing on GBP. First, data are softening which is shifting out pricing of a BoE hike. This trend could continue as front-loaded fiscal tightening hits the economy. GBP trades with risk appetite due to the UK’s large exposure to the financial sector. Additional bearish catalysts are the high commodity weighting of the FTSE and the underpricing of Brexit risks in FX markets. We think that long EURGBP positions make the most sense due to the large short positioning that is already in the markets, where the break above 0.75 was a bullish signal.
CAD: BoC to Ease? Bearish.
Next week’s BoC meeting is a close call, with risks rising of a cut. Ongoing softness in oil prices continues to weigh on CAD, although it is not the whole story. Other data weakened in 4Q, including manufacturing and non-commodity trade. Moreover, the Business Outlook Survey showed the weakest hiring and investment intentions since the crisis. We expect the central bank will shift toward a more dovish stance at next week’s meeting with a meaningful chance of policy easing.
AUD: Can’t Escape Commodities. Bearish.
Concerns about China’s growth, weak commodity prices and a general deterioration of risk sentiment have led to a sharp fall in AUD. While the decline’s speed may slow, we still expect further AUD weakness as external developments have knock-on effects on the domestic economy. Macroprudential tightening already weighs on the housing market, which has been one bright spot of Australia’s economy. As such, we expect 50bp of easing from the RBA this year, which is far from priced.
NZD: Watch CPI. Bearish.
Being a high-beta, less liquid currency, NZD is particularly vulnerable in times of risk-off. In addition, the dairy auctions are showing signs of weakness once again. With the EU bringing more milk supply to market and a slowing Chinese economy, NZD is vulnerable. Lower inflation expectations could bring further RBNZ rate cuts back on the table too. We will watch the upcoming CPI print closely to see if non-tradeable inflation remains soft.
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