USD, EUR, JPY, GBP, CHF, CAD, AUD: Weekly Outlook - Morgan Stanley

USD: Renewed Uptrend. Bullish.

We expect the Fed to keep rates on hold next week while lowering median forecasts on growth and inflation. That said, we are only expecting the Fed to lower the median 2016 dot to three hikes from four currently, stressing data dependence. Should the US economic data continue to improve, labor markets continue to tighten, and financial conditions loosen with the help of ECB and BoJ policy, the balance of risk is that markets scale forward expectations of Fed tightening rather than back in the coming month, supporting the dollar.

EUR: Selling the Rally. Bearish.

The EUR’s positive reaction post press conference was likely on the back of the interpretation that Draghi is now focusing on financial market conditions rather than the currency as the main transmission mechanism of easing. However, we like selling the rally; if Draghi is successful in easing financial conditions, and the BoJ takes the same route, such easing will only set the Fed up to potentially hike more than the markets are pricing. Rate differentials still favour EUR lower.

JPY: Bull Trend. Bullish.

The BoJ has fewer tools than the ECB does to weaken its currency, in our view. We do not believe further interest rate cuts or an expansion of QQE will be sufficient in weakening the JPY. Rather we think that the JPY bull trend is now firmly in place. An undervalued currency, scope for reserve diversification into JPY, large repatriation in the pipeline, and the potential for Japanese investors to increase FX hedge ratios support our view.

GBP: Sell into the BoE. Bearish.

We would use the GBPUSD rebound to sell as the negative risk sentiment is going to build in commodity and equity markets. The Brexit risks will remain an undertone for the currency. This week we will be watching to see if earnings are picking up as the market is expecting. The Budget will likely be a low key event until after the EU referendum. More interesting will be any commentary from the BoE from the weakness in services PMI recently.

CHF: SNB Dovish. Bearish.

Negative risk sentiment could limit the downside for the CHF this week but the SNB will be a focus. With Draghi putting less emphasis on rate cuts and EUR weakness, there may be less need for further rate cuts from the SNB next week. Instead, with the inflation outlook seeming weak, we think the SNB will opt for alternative measures. One measure could include reducing some of the exemptions on the negative deposit rate, with the aim of pushing more Swiss investment abroad.

CAD: Tactical Bullishness. Neutral.

A rising oil price in the current risk rally means we like buying CAD in the near term, but remain bearish in the medium term. As expected, the BoC kept rates on hold and refrained from policy action before the budget release on 22nd March. The BoC’s hawkish tone on the back of strong inflation data and US growth supports our view that further rate cuts are unlikely this year. We watch the CPI numbers closely this week.

AUD: Supported by the Risk Rally. Bearish.

We remain structurally bearish on AUD. As China goes through its growth model transition away from exports and manufacturing toward one more balanced with domestic demand, its import basket is likely to change drastically. The recent rebound in iron ore prices we think is temporary due to seasonality in China and potential front loading of factory production. As such, when prices come lower once again, the terms of trade adjustment is likely to bring AUD lower with it too.

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