Here are Morgan Stanley's top FX trades for 2019

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  • US dollar strength has been the prevailing theme in currency markets this year.
  • Morgan Stanley doesn’t expect that trend will be maintained in 2019.
  • The bank has nominated its top 10 FX trades for 2019.

Renewed strength in the US dollar has been the key story for currency markets in 2018, particularly for emerging markets.

The question now is whether that trend will continue in the year ahead?

To Morgan Stanley’s FX Strategy team, the answer is likely to be no, an outcome it expects will provide some respite to beaten down emerging market currencies and help to support some majors.

“The USD is overvalued by about 10-15%. Assets in the rest of the world, particularly emerging markets, are cheap relative to USD-denominated assets,” the bank says.

“US growth should keep slowing down, which means that global growth again becomes more synchronised.”

And with global economic activity set to become more synchronised next year, Morgan Stanley says that could see inflows into USD-denominated assets this year begin to reverse, an outcome that will likely weigh upon the greenback.

“Shifting capital flows will have important market implications,” it says.

“[The] USD and the dollar bloc have benefited from the build-up in net savings from Europe, Japan and China. These savings, well in excess of domestic capital needs, were recycled into foreign financial markets. This process now appears to be shifting.

“Capital flows reversing mean that FX which have weakened due to capital exports, like EUR and JPY, should gain while those beneficiaries like USD, AUD, CAD and NZD should weaken.

“Emerging market FX may outperform due to attractive valuations, high yields and a weaker USD.”

So how does the average punter position for these themes?

while there are many potential options, Morgan Stanley has nominated 10 trades that it thinks will work well in the year ahead.

Here they are, along with brief synopsis behind the call:

  • Short USD vs. EUR, SEK basket — Bullish eurozone inflation and integration outlook while US growth slows
  • Short USD/JPY — Japanese repatriation and a US growth slowdown
  • Short AUD/JPY — Weak household balance sheets, tighter liquidity conditions and repatriation
  • Short AUD, NZD, CAD vs. SEK, NOK basket — Strong European performance contrasts with weak balance sheets
  • >Short CHF/JPY — Diverging repatriation support and more European integration
  • Long BRL/MXN — Policy uncertainty and fiscal slippage risks are likely to weigh on MXN
  • Short USD vs. ARS, ZAR, IDR basket — Select high-yielding EM currencies supported by high carry and weaker DXY
  • Short USD/INR — Strong growth, wide real rate differential, weaker oil and high FX carry
  • Short CHF/CZK — Stronger EUR and EM sees CZK outperform
  • Long SGD/CNH — Effective way to short the CNY NEER basket as China slows down

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