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MORGAN STANLEY RESEARCH
November 27, 2013
FX Pulse

economy viewed as being able to gain from the strong links to
the US. However, a relative steepening of the US yield
curves, in anticipation of the Fed starting to taper, would now
be expected to put the CAD under pressure – especially in an
environment where the BoC has implemented a more dovish
tone – rather than benefiting from the US growth dynamics.

USDJPY Still on the Rails

Exhibit 4

Foreign Purchases of Japanese Equities and
USDJPY
3.5

105

3.0
100

Foreign Purchases of Japanese
Equities (4-week sum) (rhs)

1.0
0.5

85

0.0
80

thousand billions

USD/JPY

1.5
90

-0.5
-1.0

USDJPY

-1.5
-2.0

70
11

12

18000

1.400

Relative EU-US Equity Market
1.375

17000

1.350

16000

1.325

15000

14000

1.300

EURUSD
1.275

13000

1.250

12000

1.225

11000

1.200
Jan

2.0

10

Relative EU-US Equity Market Performance and
EURUSD

2.5

95

75

Exhibit 5

EUR/USD

We made the case in last week’s FX Pulse that a US curve
steeping as a result of the Fed attempting to separate
tapering from tightening via a reinforcement of forward
guidance would be positive for the USDJPY (see The Fed
Won’t Derail USDJPY). We continue to believe this to be the
case, consistent with the relationship between USDJPY and
the relative shift in yield curves. We believe confidence in the
Japanese reform process is being regained. This appears to
be supported by the latest portfolio flow information available
for the week to November 22, which revealed a near record
inflow to the Japanese equity market by foreign investors. The
recent Japanese investor outflow into foreign bonds has also
been maintained. These portfolio flows are consistent with
renewed investor confidence in Abenomics, suggesting that
the JPY is set to come back under pressure, especially as
further policy announcements are expected over the coming
month, including the draft Japanese budget in December.

differential for international investment decisions. Here we
believe there are some interesting developments taking place.
While the US and European equity markets have both rallied
strongly, with European equities even outpacing US equity
market gains in the past six months, we note that US market
gains have been far more broad-based, with the
Advance/Decline indicator moving sharply higher, while in
Europe equity market gains have been far narrower with the
Advance/Decline indicator actually moving lower during the
period of strongest outperformance of the European market.
This suggests that the recent European equity market
performance is likely to have been built on fragile ground,
which could leave the EUR vulnerable. Indeed, we note that
over the past two years EURUSD has tracked the relative EUUS equity market performance closely, suggesting that signs
that the recent European equity market outperformance is
running out of steam could leave the EUR vulnerable.

13
Source: Reuters EcoWin

Source: Reuters Ecowin, Morgan Stanley

Equity Markets Still Important
While we have put increased emphasis on the relative slopes
of yield curves, the relative performance of equity markets will
also remain an important driver for currencies, especially
given the importance now being placed on global growth

10000
Mar

May

Jul
12

Sep

Nov

Jan

Mar

May

Jul
13

Sep

Nov

Source: Reuters Ecowin, Morgan Stanley

EURUSD Topping Out
The upcoming Eurozone CPI data for November is important,
given the sharp decline in the inflation rate in October to
0.7%, which prompted the ECB to cut interest rates. Along
with the overall EMU inflation print, we would recommend
close examination of the CPI reading in individual countries.
The broad-based nature of the disinflationary pressure seen
throughout the Eurozone, including at the core of Europe, will
make it easier for the ECB to act. Indeed, ECB president
Draghi has re-emphasized over the past week that he ECB
sets policy for EMU as a whole. While our economics team
are expecting a slight rebound in the CPI following last
month’s decline, another reading below 1.0% is likely to keep
the pressure on the ECB to take further action. Indeed, ECB

4