USD Weakness Rests On 2 Pillars: Don't Enter Long Here - Morgan Stanley

[thenews]

SD weakness rests on two pillars. First, the carry trade pushing funds into higher-yielding environments. Second, real yield differentials working in favour of the EUR and the JPY, which could even push EURUSD to 1.18. The threat of further interest rate cuts (NIR) in the eurozone may lose its market impact as investors take a lesson from Japan. Here, NIR undermined bank balance sheets, weakening the money-multiplier.

The Fed debate: The Fed's Fischer suggesting the Fed is close to its targets has added to the range of views expressed on the FOMC in recent weeks, and so the markets will be looking for clarity from Yellen on Friday in a speech titled “The Federal Reserve’s Monetary Policy Toolkit”. Market discussion this year has moved away from using monetary policy to stimulate the economy and put more emphasis onto fiscal policy. Fischer spoke on this topic too, suggesting that a major issue in the US economy was about low productivity growth, which could be supported by fiscal and regulatory policies. Sure, fiscal policy is likely to continue to be part of the academic debate, but we think the central bank commentary this week is more likely to go in the direction of what else can central banks do in response to renewed recessionary pressures. Academic reports from the Fed over recent days could give investors guidance on the debates expected at the conference. Dovish communication from Yellen on Friday, similar to that expressed in the FOMC minutes, should keep USD generally weak.

...We don’t advise that investors should be entering long USD positions at the moment as the weakness in US economic data isn’t pointing towards the Fed being in a position to hike rates this year or even next.