USD, EUR, GBP, JPY, AUD, CAD, NZD: Weekly Outlook - Morgan Stanley
USD: Tactical Pullback. Neutral.
We believe that the USD pullback may continue a little while longer. Indeed, over the last week economic data in the United States were soft, while NY Fed President Dudley highlighted tightening financial conditions having an impact on Fed decisionmaking. That said, while news out of the US can drive USD fluctuations around the long-term upward USD trend, it cannot reverse the trend itself, we think. Rather, repatriation flows away from a quickly slowing emerging world will continue to dominate the bigger dollar direction. Reflecting this view, we added limit orders to buy USD against EUR, CAD and NZD.
EUR: Temporary Strength. Neutral.
We are tactically bullish on EUR despite the ECB essentially preannouncing further easing measures in March. A lot is already priced into the curve, with the markets currently expecting a 10bp reduction in the deposit rate from Draghi. Moreover, as the dollar temporarily sits in the ‘gutter’ of the USD smile, EUR should benefit. But we do not expect this EUR strength to last long. Should USD move to either end of the smile environment, EUR is likely to trade on the back foot again.
JPY: Doubting Negative Rates. Bullish.
We are out of consensus in our view that negative rates will have a limited impact on JPY. Negative rates are unlikely, on a large scale, to push private investors outside of Japan on an FX-unhedged basis. Nor are negative rates likely to drive diversification away from JPY by reserve managers. Moreover, the BoJ is implementing negative rates at a time when costs are high, returns are diminishing and currency valuations are stretched. As such, we believe that USDJPY is more likely to be driven by the global risk environment than marginal changes by the BoJ on interest rates.
GBP: 9-0 BoE. Bearish.
The BoE was surprisingly fine with the recent market volatility, despite it potentially weakening inflows into the UK and causing issues for the financial services sector. We are a little more cautious on this front. In the short term GBP is going to be driven by equity and market volatility. The UK’s current account deficit makes the currency prone to weakness when inflows are reduced. We look to sell rebounds in GBP.
CAD: A Temporary Respite. Neutral.
We believe that CAD may see a temporary respite in an environment of stabilizing oil prices and a more cautious Fed. However, our medium-term narrative remains unchanged. The great rotation that the BoC has been hoping for isn’t happening; manufacturing and non-commodity trade finished 2015 on a soft note and have shown little signs of rebound. Moreover, the Business Outlook Survey showed the weakest hiring and investment intentions since the crisis. As such, we add a limit order to buy USDCAD in our strategic portfolio this week.
AUD: Picking Up Carry. Bullish.
The Chinese authorities have brought back a period of calm, keeping the USDCNY fix stable over the past week. Coupled with liquidity injections ahead of the Lunar New Year, this dampening of volatility is likely to temporarily support carry trades. From a fundamental perspective, Australian inflation and growth numbers both surprised to the topside too. And the RBA was less dovish than previously. Consequently, we believe that AUD can continue to outperform in the near term.
NZD: Sell on Rebounds. Bearish.
One of the largest shorts within G10 was for NZD, which is why the currency has seen a large retracement in recent days. Rather than participating in the rally, we are waiting for opportunities to sell because the economic outlook has not improved. In fact, milk prices fell another 10% at the latest auction, squeezing the dairy farmers even further. Inflation remains low yet the RBNZ doesn’t think it is an issue. Data will make them swing, we believe, so sell on rebounds."
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