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MORGAN STANLEY RESEARCH

Global Currency Research Team
For research analysts, please see contact list at the back of this material.

December 05, 2013

Currencies
Global

FX Pulse
Yield to the Dollar
Trading FX Markets:
USD bull case. The US economic recovery has
gained momentum, intensifying the tapering debate
and pushing bond yields up and equity markets
lower. In summer, rising US bond market volatility
undermined the risk outlook, leading to a brief but
sharp correction for high-yielding assets in DM
markets, while many EM markets traded lower. Now,
as bond yields rise once again, concerns about risk
are re-emerging.
Tightening JPY stops. We maintain our long USD
exposure, but highlight that risk appetite will have to
recover in order for USD/JPY to reach our 105 yearend target. The JPY has become the globe’s most
important funding currency, keeping its outlook
tightly linked to the performance of carry trades and
higher-yielding assets. Hence, we tighten the stop
for USD/JPY.
Diverse central banks. The EUR remains bid for
now, due to a combination of European banks
reducing foreign currency exposure ahead of yearend and a less-dovish-than-expected ECB.
Nonetheless, after Switzerland and Japan, the euro
deploys the lowest 3-month money market rates,
and long-end yield differentials have moved sharply
against the EUR. To us, EUR/USD remains a sell
within the 1.36-1.38 range.
Buy GBP against CAD and NOK. Unlike the ECB,
the Norges Bank and the BOC have eased their
language, reacting to weaker local economic data
and real estate markets rolling over. Meanwhile, the
UK’s economic recovery has gathered momentum,
leading us to buy GBP against NOK and CAD.

Trade Recommendations
Active Trades
Short USD/KRW 1M NDF
Short EUR/GBP
Long USD/JPY
Long USD/RUB
Long USD/SEK
Short EUR/USD
Long USD/CHF
Limit Orders
Buy GBP against a
basket of CAD and NOK
Options Trades
Long USD Put/CNH Call

Entry
Stop
1080
1063
0.8480
0.8420
100.90
97.50
32.66
32.00
6.5600
6.4600
1.3830
1.3600
0.9030
0.8880
Entry
Stop
Enter at WMR on 6-Dec-13
Entry = 100
Entry Date Expiry Date
31-Oct-13
10-Jan-14

Target
1000
0.8100
105.00
34.60
6.9000
1.2700
0.9700
Target

Strike
6.1000

See page 16 for more details. Changes in stops/targets in bold italics.

MS Major Currency Forecasts
1Q14

2Q14

3Q14

4Q14

1.34
103
1.62
0.91
1.03
0.95
0.84
138
0.83
1.22
9.10
8.25

1.31
103
1.60
0.94
1.07
0.93
0.83
135
0.82
1.23
9.25
8.35

1.27
106
1.58
0.98
1.11
0.91
0.82
135
0.80
1.24
9.30
8.45

1.24
109
1.57
1.01
1.12
0.90
0.81
135
0.79
1.25
9.40
8.55

EUR/USD
USD/JPY
GBP/USD
USD/CHF
USD/CAD
AUD/USD
NZD/USD
EUR/JPY
EUR/GBP
EUR/CHF
EUR/SEK
EUR/NOK

Note: Forecasts for end-of-period. G10 forecasts updated December 2, 2013

Morgan Stanley’s Top FX Trades for 2014

P2

FX Market Overview

P3

The Impact of Higher Funding Costs on FX

P8

GBP Strong on Crosses – Bearish EUR/GBP

P13

Strategic FX Portfolio Trade Recommendations

P16

G10 & EM Currency Summary

P19

Global Event Risk Calendar

P21

FX Volatility/Carry Grids, Tactical Indicators

P23

MS FX Positioning Tracker

P26

Macro Forecasts

P27

FX Bull and Bear Projections & Forecasts

P28

In This Week’s Edition:
We investigate the impact of rising US yields on
other G-10 currencies and revisit our outlook on
Sterling.

For important disclosures, refer to the
Disclosures Section, located at the end of
this report.

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Morgan Stanley’s Top FX Trades for 2014
Global FXEM Strategy Team



Buy USD/JPY
The BoJ staying super-accommodative, and rising local risk appetite pushing capital exports, should weaken JPY.



Buy USD against NOK, NZD and CAD Basket
High leverage forces EM to switch growth models, suggesting lower commodity prices.



Buy PLN/SEK
Better Polish external balances should keep PLN supported. SEK should suffer as the Riksbank cuts rates.



Sell BRL/INR
The ‘Dutch disease’ impacted Brazilian economy seems to be heading for a twin deficit problem. INR offsets the carry.



Buy KRW against AXJ Basket
Korea, despite extreme private sector leverage, should benefit from a supply-driven US rebound.



Buy USD/RUB
Russia’s non-commodity sector suffers from uncompetitive cost structures. The US looks like the better energy play.



Sell SEK, CHF and CZK Basket against USD
A low-funding-cost basket trade, benefiting from a USD rally supported by a steepened USD yield curve.



Option basket of USD against GBP, JPY and AUD
Current low volatility is unlikely to stay in place for long. This basket should benefit from rising volatility.



Sell USD/CNY
We expect continued rebalancing of the Chinese economy, with the CNY used as a tool in this strategy.

For more detail, please refer to FX 2014 Outlook: Broad USD Strength (December 2, 2013).

.

2

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

FX Overview
Hans Redeker, Ian Stannard, Meena Bassily
• The case for autonomous JPY weakness has become less
convincing.
• Strong risk appetite is required for USDJPY to reach our 105
target. Tight stops on longs are advised.
• Risk complacency is high, leaving markets vulnerable to
changing macro conditions.
• Bond and Emerging Markets should provide warning signals
of when to reduce risk.
• The NOK outlook has weakened further due to soft data and
the Norges Bank’s more dovish tone.
• Central bank dovishness is developing into a broader G10
theme, and this is especially evident among the commodity
related currencies…
• …although the BoE has also provided a dovish message via
lower inflation forecasts, relative growth differentials suggest
a lower EURGBP.
• We also recommend a long GBP strategy against a basket of
CAD and NOK.
• While our USD/EM index approaches the yearly highs we
take note of a greater dispersion in performance.
• This is in line with our view for more fragmentation in EM
returns, and we overweight KRW, PLN and MXN; while
underweighting BRL, IDR and RUB.

JPY Interpretation

fewer multiple effects than hoped, not boding well for the
outlook on local assets to which USDJPY is highly correlated.
Third, the use of the JPY for international funding purposes
needs to remain intact to keep the autonomous JPY
weakening trend on course. Of the three factors driving the
JPY lower, only the risk-appetite funding-related factor has
stayed in place.

‘Risk Prisoner’
Hence, the correct interpretation of risk appetite remains
crucial for trading FX successfully. The JPY has become the
established funding currency. This became evident in June,
when a sharp and short correction of risk appetite pushed
USDJPY lower by 9 big figures. Once again, we trade
USDJPY from the long side, targeting 105 by the end of
December.
However, there are growing headwinds to this trade
suggesting stops for JPY short positions should be tightened
once again. Bullish equity market commentary has reached
levels consistent with imminent market corrections. For
instance, a data series provided by Institutional Investor
shows the highest reading of equity market bullishness since
April 2011. Remember, in June 2011 a sharp sell-off within
EMU’s peripheral bond markets caused equity market to fall
and the USD to rally. Bullish consensus warns that markets
are entering an asymmetric risk profile requiring supportive
macro factors to keep markets near current levels, while
marginal changes in the macro picture can open substantial
downside potential.
Exhibit 1

Nikkei and USDJPY
16000

110
Nikkei

15000

105

14000
100

95

USDJPY
12000

Index

13000

USD/JPY

For now, autonomous weakness of the JPY has run its
course. There were three factors driving the JPY lower over
recent weeks. First, anticipation the BoJ would take early
action to compensate for the decline of output expected from
the 3% increase of the VAT. Once-dovish BoJ members are
now shifting to ‘wait and see’ mode, reducing the prospects of
the BoJ expanding its balance sheet at an even faster pace.
For now, the BoJ is buying local securities equivalent to
USD75bln per month. Second, there were hopes that the
JPY5trn supplementary budget would contain a corporate tax
cut targeting an increase of dividend payments. But local
press reports suggest the supplementary budget will contain
incentives to boost corporate investment, which is less assetbullish than the headline may suggest. Japan’s corporates
have hoarded cash for years, pushing the cash position up to
30% of GDP. A tax incentive to boost investment may have

90
11000
85
10000
80

75
Jun

9000

8000
Oct
10

Feb

Jun
11

Oct

Feb

Jun
12

Oct

Feb

Jun
13

Oct

Source: Reuters Ecowin, Morgan Stanley

3

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Dealing with Complacency Signals
Of course, within our group of market strategists we debate
extreme levels of market complacency and what conclusions
to draw. First, complacency can stay with markets for some
time, suggesting early risk-negative positioning can be costly.
Take for instance early May this year, when we argued
USDJPY was topping out. Then too, equity markets were
complacent, but we had to wait a couple of weeks before
markets realized the risk-negative implications of US bond
yields shooting up and EM selling off post Bernanke’s May 16
tapering remarks. It was the first week of June when our call
for USDJPY to reach 94 came to fruition.
Second, year-end markets are often driven by windowdressing operations, seeing portfolio managers deploying
more funds into the best-performing markets. Unless
disturbed by an outlook-changing macro event, windowdressing may keep risk appetite alive for the final few weeks
of this year.
Third, ignoring complacency can be equally painful in the
case of loose risk management of positions. Hence, USDJPY
stops should be tight. Falling risk appetite will see the JPY
moving sharply higher in the short term, leaving the question
of how to capture risk-off related JPY gains and where to look
to see if a storm is brewing.

territory not covered by the anticipated expansion rate of US
nominal GDP, will equity markets be in danger. The Fed,
making clear it wants to avoid the previous mistake of
allowing bond yields to spike up into dangerous territory, will
likely stand ready with ‘guidance’ to attempt heading off a
recurrence.

….Emerging Markets?
EM is the other direction to look. The region is highly
leveraged and better US data leading to higher US capital
market yields could lead to another round of EM asset selling.
Bond yield correlations have shot up globally, suggesting
rising US funding costs are quickly translating into higher local
funding costs. Highly leveraged environments within EM will
find it difficult to cope with related pressures, especially when
leverage was used to pump up low yielding real estate
markets or other low productive investment areas.
In our main section, we investigate the impact of higher US
yields on G-10 currencies. Here too, we find that high
leverage and foreign liability countries feel the most pain. The
NOK and CAD should perform poorly when global funding
costs are rising, in our view.
Exhibit 3

Canadian and US House Prices

Exhibit 2

USDJPY and MS GRDI Index of Risk Appetite

Source: Bloomberg, Morgan Stanley

Turning NOK Bearish
Source: Bloomberg, Morgan Stanley

Looking at Bonds or…
Once again, bond markets could take the lead. As long as
bond yields rise in line with the expansion of nominal GDP
expectations, risky assets should stay supported. Only when
bond yield volatility breaks higher, catapulting yields into a

Indeed, the case for a lower NOK has become more pressing
with oil production having fallen by 30% since 2009. PM
Stolberg has put the country on course for supply side
restrictions, reminding her fellow countrymen that Norway
needs to regain lost non-energy export share. However, the
real effective exchange rate has steadily appreciated since
the start of the Norwegian oil boom in the 1970s. Norway’s

4

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

unit costs are 60% above Germany’s and 45% above average
EMU costs, suggesting the NOK is about 10% overvalued on
a TWI basis.

in NOK. This was the main upward pressure on the repo rate
path, as seen in Exhibit 4.

Exhibit 4

Exhibit 5

Factors Behind Changes in the Norges Bank
Interest Rate Forecast Since 9/13

G10 Inflation Divergence

0.60

5

Lending margins
Foreign demand
Prices
Capacity utilisation

Exchange rate
Interest rates abroad
Money market premiums
Costs

4

Average CPI ( USD, GBP,
JPY, CAD, AUD, NZD, NOK)

3

0.40
2

0.20
0.00

1

-0.20
-0.40

0

Average CPI ( EUR,
SEK, CHF)

-0.60
-1

-0.80
Nov-16

Jul-16

Sep-16

May-16

Jan-16

Mar-16

Sep-15

Nov-15

Jul-15

May-15

Jan-15

Mar-15

Nov-14

Jul-14

Sep-14

May-14

Mar-14

07

08

09

10

11

12

13
Source: Reuters EcoWin

Source: Reuters Ecowin, Morgan Stanley

Source: Reuters Ecowin, Morgan Stanley

Dovish Theme
Indeed, Norway shows typical signs of the Dutch disease, not
very different from observations made in Brazil, Australia or
Russia. The non-competitive non-energy export sector will
find it difficult to make up for the income loss due to falling
terms of trade, putting local asset markets next in line to fall.
Norway is also vulnerable to rising interest rates. While its
substantial foreign asset position should provide some
protection, Norwegian banks remain highly dependent on
wholesale funding. In addition, high household debt levels
make Norway vulnerable to rising funding costs. At the same
time, the housing market is showing initial signs of weakness,
with house prices declining. Given that housing makes up a
large share of Norwegian households’ wealth, a decline in
prices could have repercussions for consumption, growth and
NOK.
The Norges Bank took a more dovish stance at its latest
meeting, revising down its repo rate path. The fall in housing
prices was one factor that drove this softer stance. Lower
than expected inflation was also cited as a concern, with a
downward revision to the 2014 forecast. Moreover, the
central bank noted that monetary policy globally has been
more accommodative recently, creating room for a more
dovish Norges Bank. In fact, the central bank may have been
even more dovish had it not been for the recent depreciation

It is not just the Norges Bank that has taken on a more dovish
tone. This has become a theme for G10 central banks more
generally and was certainly in evidence more broadly in the
policy meetings over the past week. Indeed, the message
from the five central banks meeting this past week was
consistent with providing further guidance that policy will
remain loose for an extended period,, with the dovish tone
particularly evident in the commodity-related economies – as
the RBA, BoC and the Norges Bank all highlighted downside
inflation risks.
The Norges Bank has pushed back the timing of its expected
first rate hike by a year over the past few months, to mid2015 from mid-2014 previously. The Norges Bank also
commented that it believes forward guidance has been
effective. This is also likely to increase the pressure on the
Riksbank to take action at its policy meeting, December 17.
Indeed, Sweden already appears to be feeling the effects of
the disinflation spillover from the Eurozone, with its measure
of CPI turning negative. We expect the Riksbank to cut rates
by 25bps at this month’s meeting, leaving the SEK vulnerable
to further weakness over the medium term.
The BoE is also putting the emphasis back on the inflation
target, as the MPC attempts to maintain a dovish tone in an
environment of improving growth prospects. The BoE left
rates unchanged and did not issue a statement at the
December meeting, but the November Quarterly Inflation

5

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Report has already taken the CPI projections back to target
for much of the forecast horizon. While the Chancellor
announced the anticipated rise in growth forecasts, the
reduction of green levies on the energy industry and the
cancelation of the fuel duty increase have the potential to put
further downward pressure on the CPI projections via lower
utility and fuel prices. Below-target CPI projections from the
BoE would send a further dovish signal, implying that rates
are unlikely to rise anytime soon, potentially taking the steam
out of GBP gains against the USD.

Exhibit 7

GBPCAD and GBPNOK
14.0

2.6

GBPCAD
13.5

2.5

13.0

2.4

12.5

2.3

12.0

2.2

11.5

2.1

11.0

2.0

10.5

1.9

10.0

1.8

GBPNOK

9.5

1.7

Exhibit 6

9.0

1.6

Real Effective Exchange Rates (Unit Costs)
Suggest Norway and Canada Are Too Expensive

8.5

1.5

8.0

1.4
02

03

04

05

06

07

08

09

12

13

Source: Reuters Ecowin, Morgan Stanley

Norway

160

Our economists remain of the view that the ECB Refi rate
could be cut to 10bps in Q1 2014. Although EURUSD has
moved above the 1.3600 level, we view this as temporary and
once year-end relative repatriation flows subside we expect
EURUSD to come back under pressure as the EUR
increasingly becomes exposed to the negative fundamentals.

150
140

Canada

130

Index

11

Source: Reuters EcoWin

170

120
EMU

110
100
90
US

80
70
99

10

01

02

03

04

05

06

07

08

09

10

11

12

13

Source: Reuters EcoWin

Source: Reuters Ecowin, Morgan Stanley

However, we expect the relatively positive growth picture of
the UK to provide GBP with support on many of the crosses,
including against the EUR given that the Eurozone growth
picture remains one of the most challenging in the G10 and
the commodity-related currencies. However, it must be noted
that the ECB has revised up slightly its growth forecasts and
lowered its inflation projections. Although the ECB is also
maintaining its forward guidance, the lowering of the inflation
forecast could suggest that a larger downward surprise
regarding inflation is now required for the ECB to take further
action. We believe that there is potential for downward
surprises to both growth and inflation in the Eurozone,
keeping the EUR under pressure over the medium term.

Hence, we expect EURGBP to be vulnerable and we maintain
our bearish strategy accordingly. We also expect GBP to
outperform the commodity-related currencies and recommend
long GBP positions against a basket of CAD and NOK.

EM’s Fragmented Performance
Further signs of improvement in US data have weighed on
EM currency performance over recent weeks as tapering risks
have been brought back into market focus. Our aggregated
USD/EM index (which uses 23 currencies) is now
approaching the highs of this year (see Exhibit 8), which were
reached when tapering risks were first factored into EM
currencies. Likewise, EM equities and rates markets continue
to underperform their DM counterparts.

6

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Exhibit 8

2.5

96

for the coming year (see Global EM Strategy Outlook: Meet
the New EM, Dec 3, 2013). Overall, we are bearish on those
currencies held back by weak or deteriorating current account
positions, inflation challenges and, in some cases, poor
internal debt dynamics. These include BRL, IDR, RUB, in
particular, but TRY, ZAR and INR as well. The disappointing
current account reading in South Africa this week and
subsequent underperformance of the rand adds further weight
to this strategy. We also stay positioned long USD/RUB.

2.0

94

Exhibit 10

92

ZAR Under Pressure as Current Account Worsens

USD/EM Approaching Year to Date Highs…
4.5

108
106

4.0

104
3.5

102

3.0

100
98

1.5

90

1.0
Jan-10

4%

Jan-11

Jan-12

UST 10y

2
SAAR, %GDP

88
Jan-13

2%

USD/EM (RHS)

0%

4

Source: Morgan Stanley Research, Bloomberg

However, looking at the aggregated index alone masks the
greater degree of dispersion in the performance of EM
currencies in this latest round of weakness, which forms one
of our key themes for next year. The below exhibit shows that
while our USD/EM index is approaching new highs, some
currencies have already surpassed them; including IDR, ZAR,
TRY and CLP amongst others. BRL also has weakened
dramatically though it is still a few percentage points from the
yearly high of 2.45. Meanwhile KRW, PLN, ILS and even INR
are some way from the weak points this year.
Exhibit 9

…With Many USD/EM Crosses Making New Highs
10
5

% Deviation of currencies from May 8th Levels

0
-5
-10
-15
-20
-25

IDR
BRL
ZAR
TRY
CLP
INR
THB
PEN
MXN
COP
RUB
MYR
PHP
CZK
HUF
PLN
SGD
ILS
TWD
KRW

-30

Range

Current

*CEE vs EUR, rest of EM vs USD.
Source: Morgan Stanley Research, Bloomberg

This split up in performance ties in well with our currency
views in the EM Outlook, in which we lay out differentiated
performance as a key thematic for 2014; driven by the wide
array of challenges across EM and different policy constraints

-2%

6

-4%

8

-6%
10

-8%
-10%

12
04

05

06

07

08

09

Goods
Income
Current Account

10

11

12

13

Services
Transfers
USD/ZAR (RHS, reversed)

Source: Morgan Stanley Research, Haver, Bloomberg

Meanwhile, we are more constructive on currencies which do
not suffer from large domestic or external vulnerabilities or
immediate competitiveness challenges. We expect continued
differentiation in the market based on these themes, and we
overweight PLN, KRW and MXN in particular.
In this context the strength of INR over the last week or so is
perhaps a more curious development. However, we think it
ties in well with the greater market emphasis on reform as
another key thematic for next year. Since June, India has
taken several measures to improve its balance of payments
while also making structural changes to help increase
productivity. Specifically, exit polls this week for state
elections indicated that the opposition party may be able to
clinch a majority in some big states. This increased
expectation of more fundamental shifts in the next
government’s policies has recently kept INR supported. It is
this better reform sentiment in India that formed a key part of
the rationale to go short BRL/INR – a trade we recommend in
the FX 2014 Outlook last week.

7

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

The Impact of Higher Funding Costs on FX
Hans Redeker, Dara Blume, Sheena Shah

Exhibit 1

The Private Sector is Not Deleveraging Everywhere

• Lastly, we provide a final ranking of currencies likely to lose
value when US bond yields rise, concluding that CAD, NZD
and SEK are at most risk, with GBP, CHF and JPY at least
risk.

The post Lehman environment is often associated with private
sector deleveraging in Western economies. However, this
observation is only partly correct. The US, UK and peripheral
EMU countries have reduced private sector debt radically, but
surprisingly, other economies often considered ‘safe havens’
have increased private sector debt levels substantially. Within
the G-10, Norway, Switzerland and Canada fall into this
category (Exhibit 1). Here, the private sector has leveraged
up, in hope that the returns on assets will exceed the cost of
funding.
Globally, this development was most pronounced in countries
and currency areas with strong USD linkages, as often seen
within the EM block, especially AXJ. The USD is the most
traded currency globally, as evidenced by its high weight in
global currency reserves. Often, US rates are used as a
benchmark globally, and movements in these rates are felt
globally. For instance, during the Lehman crisis when USD
rates and yields collapsed, AxJ and other EM economies
used the decline in funding costs as an opportunity to
leverage up private sector balance sheets. The higher the
leverage, and the greater the focus on low productivity
investments such as housing, the larger the dependency on
cheap funding rates.

France

Italy

Norway

Japan

Canada

Australia

Sweden

Germany

Switzerland

• We examine which G-10 currencies react to rising US bond
yields using correlation, volatility and volatility correlation
studies.

New Zealand*

• Countries overly reliant on foreign funding, such as Australia
and New Zealand, are also at risk, in our view, even if their
private sector debt levels are low.

Non-financial corporations
Household
Total

UK

• However, as rates rise, countries with high private-sector
leverage, especially where this has been used for lowproductivity investments such as housing, are at risk.

Change in Private Non-Financial Sector Debt
Since 2009 (% of GDP)

US

• Accommodative Fed policy made global funding costs cheap
and liquidity ample, leading countries such as Canada,
Norway, and Sweden to increase private borrowing.

20%
15%
10%
5%
0%
-5%
-10%
-15%
-20%
-25%
-30%

Spain

• Not all G10 countries have seen private sector deleveraging
since the Lehman crisis – in fact, some have seen private
sector leverage increase.

Source: Haver Analytics, Morgan Stanley Research. *New Zealand data Morgan Stanley
estimates.

The declining efficiency of leverage within EM economies is
not new. While many EM economies have increased
borrowing, the economic growth rates of these same
economies have progressively declined. However, the same
is true for some DM countries. Take for instance Canada. Its
economic growth has broadly followed the US growth trend,
but while private sector leverage has declined in the US it has
increased in Canada, suggesting higher funding costs will
weigh on the Canadian economy more than the US economy.
In today’s analysis we investigate how rising US bond yields
may impact the valuation of the CAD and other DM currencies
with high private sector debt levels or substantial foreign
funding needs.
Exhibit 2

Canadian Households Have not Delevered
160

4500
US Household debt / disposable income (%)

150
140

Canadian Household debt / disposable income (%)

4000

Canadian Bank assets (C$ b) (rhs)

3500

130

3000

120
2500

110

2000

100

1500

90
80

1000
00 01 02 03 04 05 06 07 08 09 10 11 12 13

Source: Haver Analytics, Morgan Stanley Research.

8

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Source: Morgan Stanley Research, Bloomberg. The correlations are calculated as the 12m
correlations of 1m change in local bonds with respect to 1m change in US treasuries. Bond
volatility is a 6m average

In addition, we look at bond volatility and volatility correlations.
The higher bond yield correlations, volatilities and volatility
correlation the higher the vulnerability of a country with high
leverage or foreign funding needs.

Japan

Italy

UK

Spain

0.70
0.88
0.81
0.60
0.66
1.13
0.54
0.53
0.29

Canada

-0.43
0.51
0.21
0.22
0.98
0.04
0.31
0.44
-0.13

France

0.62
0.35
0.79
0.75
0.70
0.62
0.70
0.62
0.33

Sweden

0.97
0.85
0.84
0.83
0.83
0.81
0.81
0.72
0.61

Norway

Canada
UK
New Zealand
Europe
Sweden
Australia
Switzerland
Norway
Japan

Current
Bond
volatility

US

Current
Average bond Current bond
bond
correlation since
volatility
correlations
correlations
Feb 2000

Debt by sector (% of GDP)
Non-financial corporations
Government
Household

500%
450%
400%
350%
300%
250%
200%
150%
100%
50%
0%

Switzerland

Bond Correlations with 10 Year US Treasuries

Some Countries With Low Government Debt Levels…

Germany

Exhibit 3

Exhibit 4

Australia

Sovereign bond yield correlations have increased over recent
months. Exhibit 3 shows the 12-month correlation of 1-month
changes in local bond yields with 1-month changes of US 10year yields. Bond market correlations have increased
significantly when compared to the average correlation since
2000. Bond market correlations with US treasuries are high
for Canada, UK, New Zealand, EMU and Sweden.

areas, too. The evolution of private sector debt within the post
Lehman world provides some interesting insights.

New Zealand*

US Yields Drive Global Cost of Funding

Source: Haver Analytics, Morgan Stanley Research. *New Zealand Morgan Stanley
estimate.

Exhibit 5

…Have High Private Sector Debt
Private Non-Financial Sector Debt (% of GDP)
Non-financial corporations

250%

Household

200%
150%
100%
50%

The Fed had to keep interest rates low while the US dealt with
legacy assets of the previous debt cycle. Quantitative easing
is the most efficient tool a central bank can use to control
bond yields. However, while the low yields in the US have
been appropriate for the domestic economy, this does not
mean that they have been appropriate for other economic

Sweden

Spain

Norway

Japan

Canada

France

Switzerland

UK

Australia

US

Italy

Germany

Exhibit 4 ranks the total size of leverage relative to GDP.
Within this ranking the US comes 5th with debt levels in New
Zealand, Australia, Germany and Switzerland at lower levels
than in the US. However, when estimating the vulnerability of
economies to rising funding costs, the analysis should focus
on private sector debt. Governments’ work on medium-term
budgets, suggests short-term swings in funding costs have
little impact on government expenditure. On the other hand,
rising funding costs have a more immediate impact on the
performance of the private sector. Exhibit 5 shows the ranking
of private sector debt levels relative to GDP. Here Sweden,
Norway and Canada are among the highest debtors,
suggesting they could be vulnerable to rising funding costs.

0%

New Zealand*

Leverage Rising in Many Countries Post-Lehman

Source: Haver Analytics, Morgan Stanley Research. *New Zealand Morgan Stanley
estimate.

Within the G-10, Canada, France, Switzerland, Italy, Norway
and Japan increased private debt, while Sweden consolidated
some of its private sector debt, but the sector remains highly
levered. Italy and France are the second- and the third-largest
economies within EMU. The increase of private sector
leverage in these economies, while growth remains weak,
raises questions concerning the stability of EMU and implicitly
the performance of the EUR.
Norway and Switzerland have quasi-‘save haven’ currency
characteristics, and at times have benefited from capital
inflows. The combination of low international funding costs
and capital inflows allowed Switzerland and Norway to
increase private sector leverage. Both countries experienced
subsequent real estate booms. Canada does not qualify as a

9

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

‘safe haven’ according to traditional classifications, such as
net foreign asset holdings and accumulation of current
account surpluses. Indeed, Canada’s current account deficit
and net foreign liability position have both become larger.
However, over the past four years Canada experienced
substantial capital inflows, pushing house prices higher. Its
leverage ratio increased while at the same time its housing
market reached lofty valuation levels.
However, it is not only the size of internal leverage that counts
when measuring the impact that rising international funding
costs may have on FX. The following chart provides a detailed
overview of the net foreign asset – liability positions of the
G-10 currencies.

Exhibit 7

Ranking the Asset Liability and Leverage Positions
Foreign Asset
Liability Ranking
Worst

Best

New Zealand
Australia
US
Canada
Euro Area
Sweden
UK
Japan
Norway
Switzerland

Leverage
Intermediate
Ranking vulnerability ranking

Norway
Switzerland
Japan
Canada
Sweden
Euro Area
Australia
UK
New Zealand
US

Canada
Australia
New Zealand
Norway
Euro Area
Sweden
Japan
Switzerland
US
UK

Source: Haver Analytics, Morgan Stanley Research

Estimating Vulnerability to Rising US Rates

Exhibit 6

Net Foreign Asset Positions of G-10 FX Areas

The target of this analysis is to come up with a ranking of
currencies vulnerable to higher US rates. When providing
rankings we have to differentiate between medium-term,
portfolio re-weighting related effects and long-term, macro
driven influences on FX rates.

125%
75%
25%
-25%

New Zealand

Australia

US

Canada

Euro Area

Sweden

UK

Japan

Norway

Switzerland

-75%

Source: Haver Analytics, Morgan Stanley Research.

Exhibit 7 provides a ranking concerning the foreign asset
liability position and the size of internal leverage. These
rankings show that Canada, Australia and New-Zealand are
the worst positioned, while Switzerland, US and UK should do
relatively better within an environment of rising international
funding costs.
However, this analysis has followed a mechanical approach
and in practice some differentiation is required. Take for
instance Norway, which thanks its good ranking entirely to its
foreign asset position. This foreign asset position is managed
by a single, state controlled entity, while at the same time
Norway’s banks are dependent on wholesale funding.
Accordingly, we take the good ranking of Norway with a ‘pinch
of salt’. The country’s private sector weak asset liability
position (taking the petroleum fund out of the equation)
suggests a lower ranking. In fact, due to its high leverage
ranking, we regard Norway to be vulnerable should global
funding costs increase.

Within the world of fixed income, portfolio re-weightings tend
to be mechanical and driven by the assessment of return
relative to risk. Risk is an expression of current or anticipated
volatility. An increase of volatility relative to return usually
leads investors to reduce exposure and vice versa, with the
exchange rate moving accordingly.
Exhibit 8 shows bond market volatility has declined markedly
from the 2009 peaks. Bond market volatility has declined the
most in Europe, Norway and Sweden. In all three cases the
currency moves were only weakly correlated with the bond
volatility moves.
Exhibit 9 compares the latest volatility readings with volatility
peaks witnessed in 2009. New Zealand, Australia and the UK
have witnessed the sharpest rise in volatility since the recent
trough, leading portfolio managers to cut exposure due to
rising risk. Central banks controlling yield curves via
quantitative easing have helped reduce volatility, but Fed
tapering has the potential to increase bond volatility.
Countries with rising bond volatility, without a corresponding
increase in yield, will experience a decline in risk/reward,
pressuring the currency.

10

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Exhibit 8

Bond Volatility Peaks and Troughs 1
Recent volatility
trough
2009 volatility peak
Europe
Norway
Sweden
US
Japan
Canada
UK
Switzerland
Australia
New Zealand

1.054
1.076
1.150
1.746
0.592
1.144
1.329
0.984
1.664
1.116

0.562
0.419
0.559
0.560
0.180
0.481
0.658
0.310
0.847
0.624

Volatility decline
relative to peaktrough (%)
92
83
83
75
73
67
67
66
65
63

Australia has reduced private sector leverage over recent
years and New Zealand runs the lowest private sector
leverage within the G-10 world.
Exhibit 10 compares the bond market correlation with the 12month return of the CAD (TWI). Exhibit 11 shows high bond
market volatility undermining the AUD while high volatility
correlations work against the AUD as shown in Exhibit 12.
Exhibit 10

USD – CAD Sovereign Bond Market Correlation and
its Impact on CAD TWI

Source: Morgan Stanley Research, Bloomberg

When it comes to bond markets there are three variables to
look at: bond yields relative to nominal GDP, volatility and
bond market correlation. When bond yields are too low
relative to nominal GDP, leverage shoots up and when bond
yields are too high relative to nominal GDP, leverage tends to
fall. The Fed relinquishing maximum control of its bond
markets as it moves from QE towards guidance suggests the
US yield curve will steepen. Guidance should ensure bond
market yields do not overshoot growth. However, with bond
yield correlations high and rising, the chance that higher US
bond yields drives global funding costs up to levels not in line
with local GDP rates is high. The higher a country’s leverage,
the greater the associated economic and asset valuation risk.

Source: Bloomberg, Morgan Stanley Research.

Exhibit 11

AUD Bond Volatility versus AUD-TWI

Exhibit 9

Bond Volatility Peaks and Troughs 2

New Zealand
Australia
UK
Canada
Sweden
Europe
Switzerland
Norway
US
Japan

Recent volatility
trough

Current volatility

Current volatility/
2009 peak (%)

0.624
0.847
0.658
0.481
0.559
0.562
0.310
0.419
0.560
0.180

0.806
1.130
0.881
0.697
0.661
0.599
0.542
0.532
0.859
0.290

72
68
66
61
57
57
55
49
49
49

Source: Bloomberg, Morgan Stanley Research.

Source: Morgan Stanley Research, Bloomberg.

Bond market sell-offs, i.e. environments of rising yields, often
see rising correlation and rising bond volatility. CAD, NZD,
AUD, CHF and the NOK all tend to come under selling
pressure when bond market correlation rises. However, the
NZD and AUD do not have high private sector leverage.

11

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Exhibit 12

USD – AUD Bond Volatility Correlation and its
Impact on AUD TWI

Source: Bloomberg, Morgan Stanley Research.

Hence, it is not only leverage that explains FX vulnerability in
an environment of rising US yields. Foreign liability positions
also matter. New Zealand and Australia run high net foreign
liability positions. When global capital is ample and cheap, net
external borrowers can easily generate sufficient funds to roll
over debt. When global funding costs rise or capital flows into
high risk environments slow, the AUD and the NZD also come
under pressure. Exhibit 7 shows a table that positions
currencies with respect to their vulnerability to rising bond
yields via leverage or their foreign investment position. The
combined rankings suggest that high beta currencies CAD,
AUD and NZD are particularly vulnerable.
We now combine all our analysis in Exhibit 11 and come up
with final rankings for the G10 currencies, finding that, over
the medium term, CAD, NZD and SEK are the most
vulnerable to rising bond yields. When looking only at the
bond analysis, the same currencies appear to be vulnerable.
We have split the G10 currencies up into two further
categories. AUD, EUR and NOK sit in the second category as
being mildly vulnerable. GBP, CHF and JPY in the third
category are expected to be the least affected if bond yields
start to rise.

Looking at the data in more detail, we find that currently,
Canadian 10-year bonds have the highest correlation with US
Treasuries. The government bonds from the UK and New
Zealand are also highly correlated, giving them high rankings
in our analysis. Bond volatility is highest for Australia and New
Zealand, currently around 70% of the peak volatilities reached
during the financial crisis in 2007. The correlation between
bond volatilities suggests that the UK and Sweden may be
particularly vulnerable. Norway presents an interesting case: it
has a weak leverage and bond volatility correlation position;
however its bond yields are very weakly correlated with US
treasuries. Overall, the picture for GBP is mixed. Whilst the
UK has delevered more than many of the other G10
countries, there is high correlation observed between US
Treasuries and Gilts. Higher funding costs could undermine
the UK housing market boom, removing an important pillar
from the UK economic recovery.
Exhibit 13

Final Ranking for the Vulnerability of Currencies
Bond Foreign
Bond
Bond
Volatility Asset
Correlation Volatility Correlation Liability Leverage TOTAL
Canada
New Zealand
Sweden

9
7
5

6
9
5

1
4
9

7
9
5

6
1
5

9
8
7

Australia
Europe
Norway

3
5
2

8
4
2

3
5
7

8
6
2

3
4
9

6
5
4

UK
Switzerland
Japan

8
3
1

7
3
1

8
6
2

4
1
3

2
8
7

3
2
1

Source: Bloomberg, Haver Analytics, Morgan Stanley Research. The rankings are from 1-9,
where 9 represents the currency we find to be most vulnerable to rising yields. Bond volatility
ranking is based on the current volatility as a % of its peak in 2007-10.

Conclusion
Looking at leverage, foreign asset liabilities, local bond yield
correlations with US Treasuries and bond volatility together
we find that CAD, NZD and SEK are most vulnerable to rising
funding costs. GBP, CHF and JPY are found to be the least
vulnerable to a rise in bond yields.

12

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

GBP Strong on Crosses – Bearish EUR/GBP
Ian Stannard
• We continue to expect a mixed performance from GBP strong on the crosses, but struggling against the USD.
• Relative growth differentials have been a significant
supportive factor for GBP…
• …but disinflationary pressure from Europe and a
deteriorating investment/consumption ratio are challenges.
• Hence, we focus on short EURGBP positions to express a
bullish GBP view targeting 0.79 in 2014.

Bearish EURGBP
GBP has been a consistent outperformer among the G10 over
the past six-months, with gains of 11% against the USD since
the mid-July trough. On the crosses, gains have been even
more significant (GBPJPY up 15% since mid-year). These
gains have been generated by the stronger UK economic data
produced during this period, with leading indicators pushing
higher, providing positive growth signals. However, here we
examine the sustainability of these GBP gains. While the UK
is continuing to provide positive cyclical signals, which are
likely to provide GBP with further support in the near term, we
also highlight some structural challenges, which are likely to
weigh on GBP in the medium to longer term. Overall, we
concluded that GBP is likely to put in a mixed performance
over the coming year, continuing to perform well on the
crosses, but starting to struggle against a broadly stronger
USD. Hence, we continue to recommend expressing GBP
bullish trades via short EURGBP positions, where we believe
that the relative growth and monetary policy dynamics will be
the major driving force of the coming year.

In recent research we have made the case that with monetary
policy among the major G10 countries expected to remain at,
or close, to the zero bound for some time, especially with
most central banks using some form of forward guidance, that
growth differentials will have an important influence over
currency markets. This certainly appears to have been the
case for GBP. UK growth has rebounded strongly, with
leading indicators, such as the manufacturing PMI heading to
the highest levels since 2011, and while the services PMI has
eased back, the November reading of 60 is still relatively
strong.

Relative Growth Drivers
Indeed, the UK manufacturing PMI has continued to move
higher and is currently providing the second-strongest signal
among the G10, after the highly volatile Canadian indicator,
the November reading of which is yet to be released. The UK
PMI has held up well despite the more mixed signals coming
from EMU. Although the German and the overall EMU PMIs
have remained robust, it is noteworthy that the French PMI
has declined sharply, highlighting that the headwinds to
growth in the Eurozone are not just at the periphery, but also
increasingly at the core of Europe.
Exhibit 1

Relative UK-US PMIs and GBPUSD (m/m)
Index
0.04

2
GBPUSD m/m
UK-US PMI

0.03

1

0.02
0

0.01
0.00

-1

-0.01

-2

-0.02

-3

-0.03
-4

-0.04
-0.05
Jan-10

-5
Jan-11

Jan-12

Jan-13

Source: Blomberg, Morgan Stanley Research

However, despite these current strong readings it is
interesting to note that the relative outperformance of the UK
PMI compared to the US ISM is starting to slow (see Exhibit
1). This could start to challenge the pace of the GBPUSD
recovery trend, in our view, as there is some historical
relationship evident between the GBPUSD and the relative
performance of the UK-US PMIs. Also, analyzing the broader
flow of economic data from the UK relative to the US, we find
that UK data surprises have been far less positive than in the
US, with the UK-US relative economic surprises indicator
heading lower over recent months, providing further signals
that the GBPUSD recovery could be reaching an extreme.
Overall, our economists expect growth to be 2.5% in the UK,
which while not quite matching the 2.6% expected from the
US, will likely leave the UK looking relatively robust against
most of the other G10 countries, and is likely to be viewed in a
particularly positive light against the Eurozone, where we

13

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

expect the growth picture to be the most challenging of the
G10. Indeed, at the time of writing, Chancellor Osborne’s
Autumn Statement is awaited, along with the latest economic
forecasts from the OBR, which are likely to show a significant
upward revision to the UK growth outlook, both for this year
and next. This contrasts with the still constrained growth
picture in Europe, where our European economists have
lowered their projections, expecting just 0.5% growth for next
year, below market consensus, and likely the weakest growth
profile among the G10 countries.
Given the dovish message from the G10 central banks
generally, with the use of forward guidance keeping rate
differentials constrained, relative growth differentials are likely
to remain an important driver for currency markets. We expect
US growth to outperform globally, closing the gap with EM
growth, hence our view that the USD will develop broad
strength in 2014. As a result, we expect the GBPUSD uptrend
to run out of steam, but for GBP still to outperform the weaker
EUR. We maintain a bearish EURGBP view for next year.
Exhibit 2

UK Inflation Expectations and GBP TWI
4.0

5

3.5

0

3.0

Indeed, UK inflation expectations have eased back from the
recent peak. This follows the sharp decline of UK CPI and the
downward revision of inflation projections by the BoE in the
November Quarterly Inflation report, back to target for much
of the forecast horizon. The BRC shop Price Index reveals
seven consecutive months of deflationary readings. Moreover,
if the Chancellor announces a reduction of green levies on the
energy sector this has the potential to feed through into lower
utility prices, putting downward pressure on CPI, which could
see the BoE’s projections being revised even lower, below
target, sending a further dovish message. Our economists do
not anticipate a BoE rate hike until mid-2015 and we believe
that there is potential for UK rate expectations to adjust to the
more dovish message.
Exhibit 3

UK House Prices and GBP TWI
115

2.5

-10

2.0

GBP TWI (% y/y)
-15

1.5

UK Inflation Expectations 12m
(YouGov)

-20

-25
09

10

11

12

110

GBP TWI (rhs)

20

105

15

100

10

95

5

90

0

85

-5

80

-10

75

1.0

0.5
08

Percent

-5

25

Percent

Percent

30

Index

10

EUR, we believe, and suggests that the EUR downward trend
will be resumed next year. However, there is also potential for
the disinflationary pressure to have an impact beyond EMU.
There is already evidence that this disinflationary pressure is
spilling over in to countries highly exposed to Europe. While
we have highlighted the SEK as likely most exposed to this
dynamic, where inflation has turned negative already, we also
expect the UK to feel the effects.

13
Source: Reuters EcoWin

Source: Reuters Ecowin, Morgan Stanley Research

-15
-20
90

70

UK House Prices
(% y/y)
92

94

96

98

00

02

04

06

08

65
10

12

14

Disinflationary Currencies

Source: Reuters Ecowin, Morgan Stanley Research

However, despite positive growth differentials working in
GBP’s favour, especially against the EUR, other factors
impacting currency markets are likely to be less favourable for
GBP, in our view. One of the challenging themes facing GBP,
we believe, is likely to be the disinflationary pressure coming
from the Eurozone. The sharp decline in EMU CPI to below
1% has seen the ECB cut interest rates, with our economist
expecting further easing in Q1 2014 as disinflationary
pressure persists. A 15bps cut in the Refi rate to 10bps is
anticipated in Q1. This will be a direct negative factor for the

However, it is interesting that the BoE appears to be taking a
more proactive approach with regards to the management of
non-standard policy measures, with the realignment of the
FLS towards business and away from mortgage lending.
While the relationship between GBP and UK house prices has
weakened over the course over the past year, the withdrawal
of non-standard supportive measures for the housing market
suggests that the BoE will be able to maintain a looser
monetary policy approach for longer than markets are
currently anticipating, in our view.

Source: Reuters EcoWin

14

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Current Account Challenges
However, we believe that there is another potential more
significant structural issue that will likely be a drag on the GBP
over the medium to longer term, and that is the UK’s external
deficit. The UK has entered its current economic upswing with
the biggest current account deficit ever reported. A current
account deficit suggests that investment is exceeding savings,
which on its own is not a negative factor. When investment
returns outstrip funding costs than it can make sense to run a
current account deficit for a prolonged period. Low
international funding costs have allowed the UK to increase
investment relative to savings, despite these investments
offering low rates of return.
Exhibit 4

Index

UK Investment/Consumption Ratio and GBP TWI
110

0.22

105

0.21

100

0.20

95

0.19

90

GBP TWI

85

0.18

0.17

Investment/Consumption
Ratio (rhs)

80

exports stay fragile in the absence of competitivenessboosting corporate investment. Secondly, with rising house
prices undermining rental yield, funding costs become the
crucial factor for the further evolution of the economic trend.
Should UK investment stay real estate focused and the
current account deficit widen further the UK will have to attract
additional funds from abroad. Typically, yields will start to rise
initially suggesting the yield spread will become more GBP
supportive. However, the rising bond yield will increasingly
undermine the real estate outlook and that, in our view, is
when GBP will start to weaken.
By way of comparison, the Eurozone continues to run a
current account surplus, although this has started to narrow
from the peak seen earlier in the year. However, the
European surplus appears to be the result of a lack of
investment leading to a decline in imports. Declining
investment does not bode well for employment and growth
and is likely to add to the disinflationary pressures. Hence, we
do not view the Eurozone’s current account surplus as
providing a EUR supportive environment.
Exhibit 5

EURGBP and EU-US Growth Differential

75

0.15

70
94

96

98

00

02

04

06

1.00

0.925

0.75

0.900

0.14
92

0.950
0.16

08

10

0.50

12

EU-UK 2-Year Yield
Spread (rhs)

A country running a current account deficit alongside a
housing boom can be problematic, and is only sustainable
within an environment of international capital costs staying
low. The UK’s investment/consumption ratio is not only low in
historical terms it is also low compared to other G-10 currency
areas. Investment concentrated on housing produces
substantial support to the consumer sector. Hence, the
housing-market-initiated economic rebound has seen a
positive impact on consumption, creating positive economic
momentum, but it also increases long-term risk factors.
The investment/consumption ratio has continued to fall in the
UK, which is typical for an economy concentrating its
investment into real estate instead of corporate investment.
Should corporate investment not pick up to replace housing
sector investment then we believe the UK will face two
challenges. First, its trade position will continue to weaken
with housing-inspired consumption boosting imports, while

EUR/GBP

Source: Reuters EcoWin

Source: Reuters Ecowin, Morgan Stanley Research

0.875

0.25

0.850

0.00

0.825

-0.25

0.800

-0.50

EURGBP
0.775
Apr

-0.75
09

Dec Apr Aug Dec Apr Aug Dec Apr Aug Dec Apr Aug Dec
10
11
12
13
Source: Reuters EcoWin

Source: Reuters Ecowin, Morgan Stanley Research

EURGBP to Target 0.79
Overall, we expect GBP to remain relatively well supported
against the European and commodity related currencies,
although we still expect GBP to struggle against the broadly
stronger USD over the coming year. We look for GBPUSD to
decline gradually towards 1.57, but for EURGBP to target
0.79 by end 2014. But, we monitor the composition of
investment and funding costs relative to investment returns to
gauge the sustainability of GBP gains.

15

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Strategic FX Portfolio Trade Recommendations
Evan Brown, Vandit D. Shah

Enter at WMR = 100 on Dec 6, Target: 106, Stop: 98

Buy GBP
versus
Basket of
CAD, NOK

The BoC and Norges Bank shifted dovishly this week, noting downside
risks to inflation and growth. Just as importantly, the Banks deemphasized risks of inflated housing markets to financial stability,
which were justifications for not easing policy further. There is room
for the market to price in easing should economic outlooks remain soft.
Meanwhile, GBP remains a relative outperformer as manufacturing,
services and construction PMIs continue to signal expansion. The key
risk to our trade is a reversal in relative economic trends for these
countries.

Enter: 1.3600, Target: 1.2700, Stop: 1.3830

Hold:
Short
EUR/USD

UK PMIs Firing on All Cylinders
65

65

60

60

55

55

50

50

45

45

40

40

35

Manufacturing

35

30

Services

30

Construction

25

25
05

06

07

08

09

10

11

12

13

14

Eurozone CPI Decline Broad-based

Despite Draghi’s less dovish than expected tone today, we think the
weak growth backdrop in Europe will ultimately force the ECB to do
more. Specifically, our European economists now project another cut
in the refi rate and a 50-50 chance of a deposit rate cut in Q1 2014.
Moreover, as pre-AQR repatriating comes to an end, EUR/USD should
recouple with rate differentials, which have moved in favor of the US in
recent weeks.

Enter: 0.9030, Target: 0.9700, Stop: 0.8880

Swiss Data Deteriorating
Switzerland Economic Surprise Index

Enter:
Long
USD/CHF

With Switzerland firmly back in deflation, this Friday’s CPI print takes
on great importance. A negative surprise could lead the market to
price in the possibility that the SNB will launch additional easing
measures, including perhaps a cut in interest rates to negative territory
or a rise in the EUR/CHF floor. Even in the absence of policy action,
CHF is a cheap way to fund long USD positions. The key risk to our
trade is if the US economic outlook fails to improve as we forecast.

120
80
40
0
-40
-80
Jan-13

29 Oct 2013

Hold:
Long
USD/JPY

8 Nov 2013

Hold:
Long
USD/RUB

Enter: 97.50, Target: 105.00, Stop: 100.90

Mar-13

May-13

Jul-13

Sep-13

Nov-13

More Action from BoJ Necessary

While the correction in risk appetite and some less constructive news
out of Japan has weighed on USD/JPY, we remain optimistic on the
medium term prospects of this trade. Rate differentials continue to
move in favor of the US, while better US economic growth should
ultimately outweigh tapering concerns with regards to global risk
appetite. Moreover, Japanese investors continue to buy foreign bonds,
consistent with a gradual shifting of asset preferences. Still, we elect
to tighten our stop to protect against disappointing policy outcomes in
Japan.

Enter: 32.66, Target 34.60, Stop 32.00
There has been a structural deterioration in Russia’s external position,
leaving the RUB increasingly vulnerable to oil price declines.
Meanwhile, the CBR is increasingly allowing the RUB to float freely,
suggesting that further BoP deterioration will feed through into RUB
weakness. The real exchange rate remains very elevated and we
believe that risk-reward is still good to go short RUB, despite the cost
of carry.

BoP Near Balance, Even with High Oil
15.0%

120

10.0%

100

5.0%

80

0.0%

60

-5.0%

40

-10.0%

20

-15.0%
Dec 00 Jun 02 Dec 03 Jun 05 Dec 06 Jun 08 Dec 09 Jun 11 Dec 12
C/A + F/A (% GDP)
Average Oil Price ($/Barrel, RHS)

0

16

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

17 Oct 2013

Hold:
Short
EUR/GBP

18 Oct 2013

Hold:
Short
USD/KRW
1M NDF

26 Nov 2013

Hold:
Long
USD/SEK

31 Oct 2013

Entered:
Long
USD/CNH
Put

Enter: 0.8480, Target: 0.8100, Stop: 0.8420,

EUR/GBP 1y1y Rate Differential

We like this relative-value trade as a way to express diverging economic
outlooks in Europe. The UK is reaching escape velocity and the BoE is
comfortable with GBP strength as a means to cool inflation. With the
ECB cutting the refi rate earlier than expected and the possibility of a
deposit rate cut in the future, EUR could come under significant selling
pressure in coming weeks. The key risk to our trade is if UK real
economic activity fails to live up to optimistic expectations.

Enter: 1063, Target: 1000, Stop: 1080,

APAC Export Volumes

We maintain our short USD/KRW exposure given its emergence as a
regional safe haven (See USD/KRW 1000? October 18, 2013). In a
structural sense, we highlight the improved quality of inflows into the
Korean bond market and note that Korean export growth remains strong.
Korea stands out from its regional peers, given the country’s lack of
reliance on foreign funding. In addition, a ULC-based REER shows KRW
is far from overvalued at current levels, although continued BoK
intervention remains a risk.

Enter: 6.5600, Target: 6.9000, Stop: 6.4600

USD/SEK 1y1y Rate Differential

We hold on to our long USD/SEK position despite a strong Sweden PMI
supporting SEK this week. We remain bearish on SEK over the medium
term as Sweden could import lower inflation from the Euro area, as
suggested by the October deflation print. Unlike the ECB, the Riksbank
has plenty of room to cut and their export exposure to a struggling Euro
area should keep SEK offered.

Spot Reference: 6.0850, Strike: 6.1000, Premium: 0.35%

CNY Spot vs. Fixing

As Fed tapering is delayed, the global risk environment has turned more
favorable for RMB appreciation. We think that a pick-up in FX inflows
since September provides support for RMB strength. Moreover, the
volatility-adjusted carry is still very attractive in light of limited near-term
risk of currency depreciation. The key risk to our view is if Chinese
policymakers become concerned about the global growth outlook and
stem the pace of appreciation.

Sources: Reuters EcoWin, Haver Analytics, Bloomberg, Morgan Stanley Research

17

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Strategic FX Portfolio
Trade Recommendation

Notional

Nominal
Weight

Entry Date

Entry Level

Current

Stop

Target

Carry
P&L

Spot P&L

Portfolio
Contribution

Active Trades
Short USD/KRW 1M NDF

$10.0mn

10.0%

18-Oct-13

1063

1061

1080

1000

$24.2k

$38.9k

$63.1k

Short EUR/GBP

$10.0mn

10.0%

22-Oct-13

0.8480

0.8371

0.8420

0.8100

$135.0k

$4.7k

$139.7k

Long USD/JPY

$10.0mn

10.0%

29-Oct-13

97.50

101.74

100.90

105.00

$416.7k

$1.0k

$417.7k

Long USD/RUB

$10.0mn

10.0%

08-Nov-13

32.66

32.97

32.00

34.60

$92.9k

-$49.0k

$44.0k

Long USD/SEK

$10.0mn

10.0%

26-Nov-13

6.5600

6.4865

6.4600

6.9000

-$113.3k

-$2.9k

-$116.2k

Short EUR/USD

$10.0mn

10.0%

27-Nov-13

1.3600

1.3671

1.3830

1.2700

-$52.2k

$0.1k

-$52.1k

Long USD/CHF

$10.0mn

10.0%

29-Nov-13

0.9030

0.8964

0.8880

0.9700

-$73.6k

$0.5k

-$73.1k

Lim it Orders
Buy GBP against a basket
of CAD and NOK

$10.0mn

98.00

106.00

Cash

$28.7mn

Portfolio Mark to Market

$99.6mn

Enter at WMR on 6-Dec-13
Entry = 100
28.8%

Source: Morgan Stanley Research;
Notes: (1) Stops are based on the WMR fixing. (2) The portfolio represents hypothetical, not actual, investments. For more details regarding calculations, please see “Reading FX Tactical Trade
Performance” at the back of FX Pulse. Our FX Performance Data Package contains complete performance statistics. (3) Reported returns are unleveraged. Reported returns do not take into
account transaction fees and other costs; past performance is no guarantee of future results. (4) In the case that trade allocations are increased, entry levels are a weighted average. * Global Risk
Demand Index – US Pat. No. 7,617,143. We updated our methodology for our portfolio in 2011 (FX Pulse: Watching Europe, October 13, 2011).

Performance on Recommended Discretionary Currency Portfolio and Market Benchmark
Simple return, index
135
130
125
120
115
110
105
100
95
90
2005
2006

KRW NDF
GBP
CHF
RUB
JPY
SEK

MS FX Strategic Portfolio

Ba rcl ay Curr ency Fun d Ind ex

EUR
-20

2007

2008

2009

2010

2011

2012

2013

Last Pulse

-15

-10

-5

0

USD mn
5
10

Now

Options Trades
Trade Recommendation

Notional

Entry Date

Expiry Date

Strike

Entry Spot

Entry Vol

Entry Cost

Current Spot

Current Vol Current Cost
Total 2013 P&L

Long USD put/CNH Call

$10.0mn

31-Oct-13

10-Jan-14

6.1000

6.0850

2.00%

0.35%

6.0804

1.93%

0.37%

P&L
$2.2k
$1.6k

Source: Morgan Stanley Research; see notes above.

18

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

G10 Currency Summary
Dara Blume, Sheena Shah

USD

Payrolls Watched

-1.8%

We expect USD to remain supported as the markets continue to focus on growth differentials and use income economic
data to price in the timing of tapering. If Non-Farm Payrolls follow the recent improved initial jobless numbers, this should
be positive for USD as the improving employment situation brings tapering forward. Retail Sales have been declining
recently, so we will be watching the figure release this week for indications of GDP growth in the US.

EUR

Finance Ministers Policy for Growth?

3.1%

Many of our indicators are still suggesting a bearish view for EUR, for example EUR/USD trades at a premium to its 1y1y
forward. As we approach year end, the AQR and the fact that the ECB did not discuss easing measures may provide some
near-term upside risks for the EUR. However, our economists are still expecting a rate cut in 1Q14, which supports our bearish
view. We will be watching the finance ministers meeting for signs of future fiscal policy to improve growth in Europe.
Stimulus Package Revealed?
Bearish
Watch: Trade Balance, M3, Tertiary Industry Index, Industrial Production

JPY

Bullish

Bearish

Watch: Non-Farm Payrolls, Wholesale Inventories, Retail Sales,

Watch: German Trade Balance, Euro-Area Finance Ministers mtg.

3.4%

The focus this week will be on the likely announcement with details of Japan’s stimulus package. Markets have become
highly skeptical of Abenomics, so the information will provide the markets with some more assurance. The ¥5.5T stimulus
package was approved by the cabinet but new details are a risk to our bearish view. However, we have seen Japanese
investors buying increasing volumes of foreign bonds. If this trend continues, this would support our bearish view.

GBP

Buy GBP on Crosses

4.7%

Strong UK growth should support GBP against most G10 currencies, though we remain cautious on GBPUSD. While PMI
services declined somewhat this week, it remains at high levels, and the Autumn Statement showed significant upwards
revisions in growth forecasts. Relative growth outperformance should support GBP, though we note that we expect US
growth to be even stronger, weighing on GBPUSD.

CHF

Stuck in Deflation

-3.4%

Given disinflation in EMU and ongoing deflation in Switzerland, we will see if next week’s SNB meeting steps up the
rhetoric on the EURCHF floor. We expect the central bank will do whatever is necessary to keep EURCHF above 1.20,
and to push back against falling prices. EURCHF is likely to remain relatively stable, in our view, meaning USDCHF should
rise alongside weakness in EURUSD.

CAD

BoC Continues Dovish Theme

2.0%

The BoC sounded dovish at its latest meeting, though it stopped short of suggesting rate cuts. It looked through the strong
3Q GDP print, highlighting the lack of investment and exports. Moreover, the central bank said downside risks to inflation
were rising, in line with disinflation seen elsewhere. While we don’t expect the BoC to cut, markets could start to price in
hikes, weighing on CAD.

AUD

Employment Change Downside

-0.8%

The RBA this week highlighted downside inflation risks to inflation suggesting a bearish stance on the currency. The net
change in employment provided the markets with a surprise last month so we will be watching the print this week for
indications of increased weakness in the Australian economy. We remain bearish on AUD as China’s monetary conditions
continue to tighten. Any indications of improved consumer or business confidence may provide upside risks

NZD

RBNZ Watched

1.5%

Bullish

Bearish

Bearish

Bearish

Neutral

Watch: Industrial Production, Trade

Watch: FX Reserves, CPI, Unemployment, Retail Sales, SNB Decision

Watch: Labor market report, Housing Starts

Watch: Westpac Consumer Confidence, Unemployment Rate

Watch: Credit Card Spending, RBNZ Rates Decision

The RBNZ’s McDermott noted last week that the NZD is historically high and is overvalued, which makes us cautious on
the currency in the week of the RBNZ meeting. While our economists are not expecting a rate cut, the bank may sound
more dovish, bringing downside risks to the currency. Our neutral stance, however, comes from the fact that the NZIER
suggested the economy should grow next year at its strongest rate since 2007.

SEK

Riksbank Still Expected to Cut

-1.2%

Data has been stronger in Sweden recently, prompting markets to reduce the probability of a rate cut at the December
Riksbank meeting, and offering some support to SEK. However, with central banks globally more dovish – the Norges
Bank is the latest example – the Riksbank too is likely to take a dovish turn, supporting our call for a rate cut, and
pressuring SEK. The upcoming CPI print will be key for the Riksbank decision.

NOK

Norges Bank Takes a Dovish Turn

0.8%

Bearish

Bearish

Watch: Industrial production, CPI, Unemployment

Watch: Industrial production, CPI

The Norges Bank revised its repo rate path down at its latest meeting, implying a small chance of a cut in 2014. The
central bank cited falling housing prices, which would weigh on consumer spending, lower than expected inflation, and
global monetary accommodation as three factors that drove its softer decision. We expect further NOK depreciation as
markets price in a more dovish central bank.

Charts show 1M performance against USD, as normally quoted. For USD we have used the DXY.

19

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

EM Currency Summary
Kritika Kashyap (AXJ), Meena Bassily (CEEMEA), Felipe Hernandez (LatAm)
We believe that Chinese authorities will continue to rebalance towards a more sustainable growth model next
year, using CNY as one of the tools in this strategy. With risks skewed towards CNY strength and with CNY
CNY Bullish
providing attractive carry on a vol-adjusted basis, we recommend 12m USDCNY short positions
RBI has received USD 25Bn through its FX swaps facility and may continue these swaps for longer. Although
RBI’s measures have improved the balance of payments situation in the near term, investor sentiment
INR Neutral
remains weak and funding concerns can re-emerge along with risks of Fed QE tapering.
Valuations for IDR have improved following the significant depreciation over the last few weeks. While structural
issues of high import growth and low export competitiveness remain, and we think that further depreciation is in
IDR Neutral
store for IDR, risk- reward is not in favour of bearish IDR positions at this point.
We are positive on KRW given Korea’s solid current account and continued ‘quality’ foreign inflows in its
domestic markets, which we expect will continue into 4Q13. BoK interventions are the main risk but lately
KRW Bullish
there has been political pushback on interventions given mounting FX losses for BoK.

MYR Bearish
PHP

Neutral

THB

Bearish

CZK

Neutral

HUF

Neutral

ILS

Bullish

PLN

Bullish

RUB

Bearish

TRY

Bearish

ZAR

Bearish

BRL

Bearish

CLP

Neutral

COP

Neutral

MXN Bullish
PEN

Neutral

USD/MYR continues to trade higher in line with the global risk sentiment. Malaysia’s 3Q GDP and current
account data affirmed its stable fundamentals, although in the medium-term Fed QE tapering and slower
Chinese growth would weigh on Malaysia’s balance of payments, increasing pressure on the MYR.
PHP did not see a significant sell-off following the devastating typhoon, partly given Philippines’ solid
economic fundamentals and fiscal leeway to fund reconstruction programs, while overseas workers
remittances to support aid and development have also backed the currency.
BoT’s policy rate cut has reduced yield support for THB at a time when political concerns are also instigating
outflows from local equity and bond markets. While BoT’s rate cut is supportive of growth, it may lead to a further
decline in Thailand’s weakening current account balance making THB more exposed to funding risks.
With EUR/CZK well above the CNB’s target level of 27, we doubt interventions will continue and see further
upside from current levels as unlikely unless accompanied by a significant deterioration in fundamentals.
Still, we expect the ‘floor’ to hold and therefore recommend buying EUR/CZK on moves lower toward 27.
The NBH has continued to cut rates and remained dovish, leading to some underperformance in the HUF
relative to the EUR and CEE currencies. With growth beating expectations, however, we do not think HUF
weakness will be long lasting, and we maintain a neutral-bullish HUF bias.
USD/ILS has traded in sideways fashion as the positive BoP flows are offset by the BoI’s USD purchase
program and other interventions. We maintain an overall bullish bias on ILS, especially relative to other EM
currencies. Against the USD we look for moves toward 3.55 before recommending selling the cross.
We maintain a constructive view on the zloty, and recommend adding to short EUR/PLN positions on moves
above 4.20. Further signs of disinflation in the euro area may add to downward pressure on the cross, to the
extent that it increases the risk of more dovish ECB policy, while the NBP will likely maintain its on-hold bias.
We stick to recommending long USD/RUB positions. Any further downside in oil prices related to a reduction
in geopolitical risk will put depreciation pressure on the RUB as the BoP continues to slowly deteriorate. A
dovish policy bias and reduced intervention also adds to the downside risks for RUB.
Despite a slightly more hawkish bias being adopted by the CBT, the lira has remained under pressure with
the basket making new highs. We expect more weakness for TRY, as in our view rates are still not enough to
alleviate the risk of rising UST yields.
ZAR has come under pressure as underlying fundamental weaknesses have kept the currency sensitive to
strong US data given the associated rise in UST yields. Macro vulnerabilities were highlighted this week by
the continued deterioration in the current account deficit, which widened to an annualized rate of 6.8%GDP.
Decelerating economic activity and worse than expected fiscal results keep weakening pressure on BRL, with
central bank intervention and higher interest rates the main opposing forces. We remain bearish as structural
problems remain unsolved and the probability for reforms ahead of the election next year is low.
Uncertainty about potential economic and political reform, concerns about China and expectations for
additional interest rate cuts have kept weakening pressure on CLP. Valuations have improved but the trend
could continue in the near term, until political noise settles down and despite still positive fundamentals.
The currency is back within the government’s preferred range between 1900 and 1950. At current levels we
expect to see higher public sector dollar inflows in the fourth quarter that should provide near term support.
The central bank continues buying dollars, but at a more moderate pace than earlier in the year.
We are bullish MXN but acknowledge it remains a proxy hedge for broader EM risks and prefer reflecting our
view through relative value trades or tactically buying the dips. Growth continues to disappoint, but news
about plans for a broader than initially announced energy reform has reversed previous negative sentiment.
The central bank has stepped up exchange rate intervention to limit volatility and weakening pressure after
unexpectedly cutting interest rates earlier this month. Economic growth has decelerated but remains the
highest in the region and together with solid fundamentals limit near term downside risks.

Charts show 1M performance against USD, as normally quoted

20

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Global Event Risk Calendar
Sheena Shah
Date

Day

06-Dec

Fri

07-Dec
08-Dec

09-Dec

10-Dec

11-Dec
12-Dec

13-Dec

15-Dec

Sat
Sun

Ccy

Time (GMT)

Event

Ref. Period

MS forecast

Market

Previous

Nov
Nov
Oct
Nov
Oct P

7.1%

6.9%
-0.1%
-1%

6.9%
-0.3%
3.3%
3.2
109.2
3.5%
0.7%

CAD
CHF
EUR
GBP
JPY
MXN
NOK
NOK
SEK
USD
USD
USD
USD
JPY

13:30
08:15
11:00
09:30
05:00
15:00
09:00
12:20
08:30
13:30
13:30
13:30
14:55
02:00

Unemployment Rate
CPI (YoY)
German Factory Orders (MoM)
BoE Inflation Expectation
Leading Index CI
Banxico Rates Decision
Industrial Production (MoM)
Norges Bank's Olsen spks (Oslo)
Budget Balance
Change in Nonfarm Payrolls
Unemployment Rate
PCE Core (YoY)
Univ. of Michigan Confidence
BoJ's Kuroda spks (Tokyo)

CNY
JPY

N/A
23:50

Exports (YoY)
Current Account Balance

Nov
Oct

CHF
CNY
EUR
EUR
EUR
GBP
JPY

06:45
01:30
07:00
11:00
14:00
N/A
N/A

Unemployment Rate
CPI (YoY)
German Exports (MoM)
German Industrial Production (MoM)
Euro-area Finance Ministers mtg. (Brussels)
BoE's Carney spks (New York, NY)
Eco Watchers Survey Outlook

Nov
Nov
Oct
Oct

CNY
EUR
EUR
EUR
GBP
JPY
NOK
SEK
USD
NZD

05:30
10:00
12:00
N/A
09:30
23:50
09:00
08:30
15:00
20:00

Industrial Production (YoY)
Italian GDP (QoQ)
ECB's Draghi spks (Rome)
EU Finance Chiefs mtg. (Brussels)
Industrial Production (MoM)
Domestic CGPI (YoY)
CPI (YoY)
Industrial Production (MoM)
Wholesale Inventories (MoM)
RBNZ Rates Decision

AUD
CAD
CHF
CLP
EUR
IDR
JPY
KRW
PEN
SEK
SEK
USD
USD
USD

00:30
17:50
08:30
21:00
10:00
N/A
N/A
01:00
23:00
08:30
08:30
13:30
13:30
15:00

Unemployment Rate
BoC's Poloz spks (Montreal)
SNB Rates Decision
CBCH Rates Decision
Industrial Production (MoM)
BI Rates Decision
Japanese cabinet approval of supplementary budget
BoK Rates Decision
BCRP Rates Decision
CPI (YoY)
Unemployment Rate
Retail Sales Advance (MoM)
Initial Jobless Claims
Business Inventories

GBP
RUB

09:30
09:30

Construction Output (MoM)
CBR Rates Decision

Oct

JPY

23:50

Tankan Large Manufacturing Index

4Q

3.5%

109.7
3.5%

Oct
Nov
Nov
Nov
Oct
Dec P

-7.35B
204k
7.3%
1.2%
75.1

195k
0.2%

185k
7.2%
1.1%
76

7.0%

6.3%

5.6%
¥587.3B

3.1%

3.2%
3.1%

3.1%
3.2%
1.6%
-0.9%

Mon

Nov

54.5

Tues

Wed
Thurs

Nov
3Q F

10.1%

Oct
Nov
Nov
Oct
Oct

10.1%

0.3%
2.5%

Nov

0.9%
2.5%
1.9%
0%
0.4%
2.5%
5.7%

0%
4.5%

0%

0%
4.5%
-0.5%
7.5%

2.5%

2.5%

0.9%

0.4%
321k
0.4%

2.5%
4%
-0.1%
7.3%
0.4%
316k
0.6%

5.5%

5.5%

-0.9%
5.5%

Oct

Dec
Nov
Nov
Nov

10.3%
-0.1%

Oct

Fri

Sun
12

21

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Date

Day

16-Dec

Mon

Ccy

Time (GMT)

AUD
CAD
CNY

23:00
13:30
01:45

Conference Board Leading Index
Int'l Securities Transactions
HSBC Flash Manufacturing PMI

EUR
EUR
USD
USD
USD
USD

09:00
10:00
13:30
14:00
14:15
14:15

PMI Manufacturing
Trade Balance
Empire Manufacturing
Total Net TIC Flows
Industrial Production (MoM)
Capacity Utilization

AUD
AUD
CZK
EUR
EUR
GBP
GBP
HUF
JPY
NZD
SEK
SEK
TRY
USD

00:30
23:30
12:00
10:00
10:00
09:30
09:30
13:00
23:50
21:45
08:30
10:00
12:00
13:30

RBA Minutes (Dec)
Westpac Leading Index (MoM)
CNB Rates Decision
German ZEW Survey Expectations
CPI (YoY)
ONS House Price (YoY)
CPI (YoY)
NBH Rates Decision
Exports (YoY)
Current Account Balance
Riksbank Rates Decision
Riksbank's Ingves Press Conf.
CBT Rates Decision
CPI (YoY)

CHF
EUR
GBP
GBP
INR
NZD
SEK
USD
USD
USD
USD
USD

10:00
09:00
09:30
09:30
05:30
21:45
08:00
13:30
19:00
19:00
19:00
19:30

CHF
EUR
EUR
GBP
TWD
USD
USD

CAD
EUR
GBP
JPY
NOK
USD
Upcoming Risk Events
09-Jan
GBP
09-Jan
EUR
22-Jan
CAD
4-Feb
AUD

16-Dec

17-Dec

18-Dec

19-Dec

Ref. Period

MS forecast

Market

Previous

Oct
Oct
Dec

0.3
8.4B
50.4

Dec A
Oct
Dec
Oct
Nov
Nov

51.6
14309
-2.21
-106.8B
-0.14%
78.1%

Mon

Tues
Nov
0.05%

0.05%

3.0%

3.0%

Dec
Nov F
Oct
Nov
Nov
3Q
0.75%
4.5%

0.1%
0.05%
54.6%
0.9%
3.8%
2.2%
3.2%
18.6%
-1.252B
1%

Nov

4.5%
1%

ZEW Survey Expectations
IFO Expectations
Bank of England Minutes
ILO Unemployment Rate 3Mths
RBI Rates Decision
GDP (QoQ)
Consumer Confidence
Housing Starts
FOMC Rate Decision
Fed Pace of MBS Purchases
Fed Pace of Treasury Purchases
Fed's Bernanke Press Conf.

Dec
Dec

31.6
106.3

07:00
N/A
09:00
09:30
09:00
13:30
15:00

Trade Balance
EU Leaders Summit (Brussels)
Euro-area Current Account
Retail Sales (MoM)
CBC Rates Decision
Initial Jobless Claims
Philadelphia Fed Business Outlook

Nov

2.43B

Oct
Nov

13.7B
-0.6%
1.875%
316k
6.5

13:30
15:00
09:30
N/A
09:00
13:30

CPI (YoY)
Consumer Confidence
GDP (QoQ)
BoJ Monetary Base Target
Unemployment Rate
GDP (QoQ)

12:00
12:45

BoE Rates Decision
ECB Rates Decision
BoC Rates Decision
RBA Rates Decision

Wed

Oct
7.75%
3Q
Dec
Nov
0.25%
Dec
Dec

40
45

7.6%
7.75%
0.2%
104.9
883k
0.25%
40
45

Thurs

19-20

20-Dec

Event

1.875%
321k
Dec

Fri
Nov
Dec A
3Q F
Dec
3Q T
Jan
Jan
Jan
Feb

3%
0.5%
1.0%
2.5%

0.7%
-15.4%
0.8%
¥270T
2.6%
2.8%
0.5%
0.25%
1.0%
2.5%

N/A Denotes timing approximate or not confirmed / All times and dates are GMT and correct as of the date of publication / For a full list of economic events see the calendar on the Morgan Stanley
Matrix Platform / Source: Morgan Stanley Research, Bloomberg

22

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Cross-Currency Carry and Vol Heat Map
Vandit D. Shah

Note: Access is available to the carry metrics on an interactive basis at:https://secure.ms.com/eqr/quotient/webapp/servlet/IRSHomeServlet
Contact your Morgan Stanley sales representative if you do not have access. Source: Morgan Stanley Research

23

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

What’s New This Week?

Some Key Concepts in the Heat Map:

• Vols were mixed this week, with MXN, BRL, and ZAR vols notably
moving higher. ILS and EURCHF vols moved lower somewhat.

Percentiles are calculated as the % of days that the market closed
higher than the current level over the prior five years. So 94% would
indicate that only 6% of the observations over the past five years
were above the current level. The percentile extremes are similar to
a z-score but are less sensitive to outliers.

• Implied carry was mixed in EM this week as well. IDR, PHP, and
HUF carry rose, while INR, THB, and TWD carry fell.

User’s Guide to the Heat Map
The heat map is designed to allow investors to quickly determine
which currency pairs offer relatively high (or low) vol and carry both
compared to other currencies and from a historical perspective. Our
intent in this is to highlight extremes in vol and carry that provide
attractive trading opportunities as well as allow investors who have a
general interest in buying or selling vol and carry a quick way to
isolate which currency pairs offer the best relative value at this
juncture. We do this by indicating extreme highs in red and extreme
lows in blue. Note that for outright indicators the colors are based on
extreme levels across currencies and show which currency pairs are
high (red is top 15th percentile and bold is top 10th) and low (blue is
bottom 15th percentile and bold is bottom 10th) on a relative basis.
For the percentiles the colors instead show whether vol or carry is
extreme from a historical standpoint. A horizontal string of red
entries indicates a currency pair with high vols on many measures
while a string of blues indicates a currency pair where vol is cheap.
Similarly, a horizontal string of red across the carry metrics indicates
a currency pair that is offering relatively attractive return on a large
number of indicators (note we do not filter for low return.)
Risk reversal extremes can occur independent of the levels of vol
and carry but here too, when currencies are at extremes across
currencies and on a historical basis this can indicate an attractive
trading opportunity. In addition, the risk-reversals are an important
component of a second purpose of the heat map, to indicate which
trade structures take best advantage of the market prices. For
instance, if an investor wants to go long EURUSD, they might first
reference the first two vol metrics to determine whether vol is cheap
or expensive. They might then reference the vol curve metrics and
the carry metrics to determine whether it is attractive to push out
duration to lock in carry and whether vol becomes significantly more
expensive (or cheaper) at longer maturities. Finally, the risk reversal
skew metrics can be used as an indicator of whether low-delta
options are more or less attractive than at-the-money strikes.
Another example is that if the vol curve metrics are indicating the
curve is unusually flat or inverted then selling front end vol via
window barriers might be advised.

Implied vs realized vol: There is no hard link between implied and
realized vol so it is possible – and indeed often – that implied vol
might be cheap from a historical basis but still be high vs where vol
is realizing. We feel that to be truly cheap (or expensive) this metric
should be consistent.
1Y/3M and 5Y/1Y vol: These are the ratios of the indicated
maturities of implied vol and serve as an indicator of whether the
implied vol curve is relatively flat or steep. This serves as an
additional indicator if vols are at extremes and can also be helpful in
determining the value part of the vol curve.
RR/Imp: This is the ratio of the 3M 25-delta risk reversal skew to 3M
implied vol. We only do percentiles on the ratio because skew is
highly covariant with vol – i.e., skew typically increase as vol rises –
so it is important to adjust for the vol level when determining
historical extreme of skew.
Vol-Adj. Carry: Higher carry currencies commonly have relatively
high implied vol so metrics on this ratio can help determine whether
carry is attractive relative to where vol is being priced. A high level
for this metric also would suggest that options offer a viable way to
capture carry.
1Y/3M Carry Rat: The ratio of 1Y to 3M net carry. To some degree a
steep curve (red) would be another factor in indicating a good carry
opportunity but the main use of this metric is a quick indication of
whether carry is enhanced or compromised by moving to longer
duration.
1Y Carr /Call Sprd: The numerator is 1Y net carry (i.e. 1Y forward
vs spot spread) and the denominator is the cost (in % pts.) of a 1Y
call spread going long the ATMF strike and selling the ATMS strike –
i.e., the call spread return is capped at the forward discount. This
ratio filters for the fact that currencies with high carry frequently have
high skew for puts – i.e., favoring the lower yield currency. A high
value here suggests that call spreads represent a relatively attractive
way to capture carry with limited risk In the current yield environment
we believe when this ratio is above 2.0 that it is sensible to consider
call spreads to capture carry.

24

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

G10 FX Tactical Indicators
Vandit D. Shah, Dara Blume
Exhibit 1

Exhibit 2

Historical Currency Performance

Risk-Adjusted Five-Year Yields

3%

160
110

1%

60

-1%

10

-3%

-40
-90

-5%
CHF EUR GBP SEK DXY NOK NZD CAD JPY AUD
Monthly

Weekly

-140
Jun-13

Jul-13

Sep-13

USD

EUR

Nov-13
GBP

JPY

b
Source: Bloomberg, Morgan Stanley Research

Source: Morgan Stanley Research

Exhibit 3

Exhibit 4

Relative Momentum Indicator

MS GRDI – Standardized

10

3
2

5

1

0

0
-1

-5

-2

-10

-3

SEK

CHF

GBP

EUR

NZD

Current

USD

JPY

Last Pulse

NOK

CAD

AUD
-4
Mar-13

Apr-13

May-13

Jul-13

Aug-13

Source: Morgan Stanley Research

Global Risk Demand Index – US Pat. No. 7,617,143
Source: Morgan Stanley Research

Exhibit 5

Exhibit 6

G10 Surprise Index

IMM Positions Summary ($bn)

Oct-13

Nov-13

EUR
NZD
CHF
MXN
GBP
CAD
AUD
JPY
-15

Source: Morgan Stanley Research

-13

-11

-9

-7

-5

-3

-1

1

3

5

Note: Aggregate USD positioning in nominal terms, see following page for details.
Source: Bloomberg, Morgan Stanley Research

25

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Morgan Stanley FX Positioning Tracker
Calvin Tse, Gabriel de Kock, Vandit D. Shah
Overall Score

Component Scores

This
Week

Last
Week





USD

-2

-3

EUR

0

0

JPY

-3

-2

GBP

3

1

CHF

5

5

CAD

-3

-3

AUD

0

0

NZD

1

1

NOK

0

0

SEK

-5

-5

Short

Neutral

-10 -9 -8-7 -6 -5 -4 -3 -2 -1 0

Long
1

3 4 5 6 78

9 1

 

 











MS
Flow

IMM

-1

1

-3

6

0

-10

1

3

5

7

4

CHF

2

-3

-8

CAD

3

-6

6

-2

AUD

5

0

-2

0

Toshin

4

Beta

Sentiment

-9

1

-1

USD

-4

-4

6

EUR

4

-7

-7

JPY

3

6

3

GBP

TFX



Since the last positioning tracker update
(December 2), positioning in the G10 currencies
has shifted. We calculate the largest longs to be
in CHF. The largest shorts are in SEK.



Intra-week, GBP positioning moved into long
territory from neutral. Global macro hedge
funds and Japanese retail were both notable
buyers.



USD positioning moved into neutral territory
from short. This was primarily driven from
buying interest by the global macro hedge fund
community.



We will provide a full updated report and refresh
positioning scores for all of our underlying subindicators next Monday.

NZD

0

NOK

-5

SEK

For Methodology see Appendix

Morgan Stanley High-Frequency Misalignment Monitor
1Yr
USD
EUR
JPY
GBP
CHF
AUD
CAD
NZD
NOK

EUR
-0.5%

JPY
-2.5%
-2.0%

GBP
0.1%
0.5%
2.5%

4 December, 2013
CHF
AUD
0.5%
-5.1%
1.0%
-4.6%
3.0%
-2.6%
0.4%
-5.2%
-5.6%

CAD
-4.0%
-3.5%
-1.5%
-4.0%
-4.5%
1.1%

> +/- 1 sd
> +/- 2 sd
> +/- 3 sd

NZD
4.7%
5.1%
7.1%
4.6%
4.2%
9.7%
8.6%

NOK
-1.5%
-1.1%
0.9%
-1.6%
-2.0%
3.6%
2.4%
-6.2%

SEK
0.7%
1.2%
3.2%
0.7%
0.2%
5.8%
4.7%
-3.9%
2.2%

NZD
2.5%
3.0%
4.2%
1.9%
1.3%
3.7%
4.8%

NOK
-3.2%
-2.7%
-1.5%
-3.8%
-4.4%
-2.0%
-0.9%
-5.7%

SEK
0.4%
0.9%
2.1%
-0.2%
-0.8%
1.6%
2.7%
-2.1%
3.6%

NOK
-4.4%
-4.1%
-3.3%
-5.5%
-6.8%
-3.7%
-0.4%
-4.8%

SEK
-0.5%
-0.2%
0.6%
-1.5%
-2.9%
0.2%
3.5%
-0.9%
3.9%



The past week’s commodity currency ex-NZD
sell-off has lifted both the size and statistical
significance of G10 FX misalignments, with
AUD, CAD and NOK cheap and NZD rich. JPY
appears undervalued but we maintain a short
position against USD in our strategic portfolio.



The one-year model, which generates the most
reliable trading signals, suggests that NZD is
broadly overvalued, while AUD, CAD, JPY and
NOK are undervalued. The model flags tactical
short NZD positions against the rest of the G10
currencies with 3σ-plus misalignments against
JPY, AUD, CAD, and NOK and 2σ elsewhere.
AUD and CAD longs against USD and CHF also
get a 2σ seal of approval.



Over a two-year look-back window, the matrix
suggests going short the NZD against most
currencies. NOK and CAD also look
undervalued against the remainder of G10.



The model estimated over a three-year lookback window highlights broad CAD and NOK
undervaluation, particularly against GBP, USD
and CHF.



Our one-, two- and three-year misalignment
matrices are providing strong trading signals this
week. The overarching theme is AUD, CAD and
NOK undervaluation and NZD overvaluation.

2Yr
USD
EUR
JPY
GBP
CHF
AUD
CAD
NZD
NOK

EUR
-0.5%

JPY
-1.7%
-1.2%

GBP
0.5%
1.0%
2.2%

CHF
1.2%
1.7%
2.9%
0.7%

AUD
-1.2%
-0.7%
0.5%
-1.8%
-2.4%

CAD
-2.3%
-1.8%
-0.6%
-2.8%
-3.5%
-1.1%

> +/- 1 sd
> +/- 2 sd
> +/- 3 sd

3Yr
USD
EUR
JPY
GBP
CHF
AUD
CAD
NZD
NOK

EUR
-0.3%

> +/- 1 sd
> +/- 2 sd
> +/- 3 sd

JPY
-1.1%
-0.8%

GBP
1.0%
1.3%
2.2%

CHF
2.4%
2.7%
3.5%
1.4%

AUD
-0.7%
-0.4%
0.4%
-1.7%
-3.1%

CAD
-4.0%
-3.7%
-2.9%
-5.0%
-6.4%
-3.3%

NZD
0.4%
0.7%
1.5%
-0.6%
-2.0%
1.1%
4.4%

For Methodology see Appendix

Note: Misalignment measured as the overvaluation of the column currency versus the row currency

26

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Central Bank Watch
Morgan Stanley Rates Forecasts

Next rate
decision

Market
expects (bp)

MS
expects (bp)

Current

4Q13

1Q14

2Q14

3Q14

4Q14

US

18 Dec

-1.9

0

0.15

0.15

0.15

0.15

0.15

0.15

Euro Area

09 Jan

1.5

0

0.25

0.25

0.1

0.1

0.1

0.1

Japan

20 Dec

0.0

0

0.1

0.1

0.1

0.1

0.1

0.1

UK

09 Jan

-1.0

0

0.5

0.5

0.5

0.5

0.5

0.5

Canada

22 Jan

-1.1

0

1

1

1

1

1

1

0

0

0

0

0

0
0.75

Switzerland

12 Dec

-0.9

0

Sweden

17 Dec

-12

0

1

0.75

0.75

0.75

0.75

Australia

04 Feb

-5.5

0

2.5

2.5

2.5

2.5

2.5

2.5

New Zealand

12 Dec

2.5

0

2.5

2.5

2.5

2.75

3

3.25

Russia

13 Dec

-

0

5.5

5.5

5.5

5.25

5.25

5

Poland

08 Jan

0

0

2.5

2.5

2.5

2.5

2.75

3.25

Czech Rep

17 Dec

-2

0

0.05

0.05

0.05

0.05

0.05

0.05

Hungary

17 Dec

13

-20

3.2

3

2.6

2.6

2.6

3.25

Romania

08 Jan

-

-25

4

4

3.75

3.75

3.75

4

Turkey

17 Dec

-

-

4.5

4.5

4.5

4.5

5

5.5

Israel

23 Dec

-3

0

1

1

1

1

1.25

1.5

South Africa

29 Jan

11

0

5

5

5

5

5

5

Nigeria

14 Jan

-

-

12

12

12

12

12

12

Ghana

10 Feb

-

-

16

16

16

16

16

16

China

N/A

-

0

6

6

6

6

6

6

India

18 Dec

-

0

7.75

7.75

8

8

7.75

7.5

N/A

-

0

0.5

0.5

0.5

0.5

0.5

0.5

S. Korea

11 Dec

1

0

2.5

2.5

2.5

2.5

2.5

2.75

Taiwan

19 Dec

5

13

1.875

1.875

1.875

1.875

2

2.125

-

7.5

7.75

8

8

8

8

0

3

3

3

3

3

3

Hong Kong

Indonesia

12 Dec

-

Malaysia

09 Jan

5

Thailand

22 Jan

-

-

2.25

2.25

2.25

2.25

2.25

2.75

Brazil

15 Jan

42

50

10

10

10.5

10.5

10.5

10.5

Mexico

06 Dec

0

0

3.5

3.5

3.5

3.5

3.5

3.5

Chile

12 Dec

-16

0

4.5

4.5

4.25

4.25

4.25

4.25

Peru

12 Dec

-

0

4

4

4

4

4

4

Colombia

20 Dec

-9

-25

3.25

2.75

2.75

2.75

2.75

3.5

Source: National Central Banks, Morgan Stanley Research forecasts; Note: Japan policy rate takes a mid-range value. Market expects as of December 05, 2013. What’s in the Price | EM

G4 Policy Rate Forecasts
US

7

Japan

BRICs Policy Rate Forecasts
UK

Euro Area

30

6

25

5

20

4

15

3
Morgan Stanley
Forecasts

2

China

Brazil

Russia

India

Morgan Stanley
Forecasts

10
5

1
0
2002

0
2002

2004

2006

Source: Morgan Stanley Research

2008

2010

2012

2004

2006

2008

2010

2012

2014

2014

Source: Morgan Stanley Research

27

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

FX Bull/Bear Projections
EURUSD

USDJPY
USD/JPY
130

EUR/USD
1.50

25 Delta S trikes

120

MS Forecast

1.40

25 Delta S trikes
MS Forecast

110

1.30

100

1.20

90

1.10

80

1.00
Mar-12

GBPUSD

Mar-13

Mar-14

Mar-15

70
Mar-12

EURCHF

Mar-13

Mar-14

Mar-15

GBP/USD
1.80
1.75
1.70
1.65
1.60
1.55
1.50
1.45
1.40
1.35
1.30
Mar-12

25 Delta S trikes

1.40

1.25

MS Forecast

1.05

1.35

1.20

1.00

1.15

0.95

1.10

0.90

MS Forecast

1.30
1.25

1.05

0.85

1.20

1.00

0.80

1.15

0.95

0.75

1.10
Mar-12

0.90
Mar-12

0.70
Mar-12

Mar-14

Mar-15

USDSGD
USD/SGD
1.45
1.40

25 Delta S trikes
MS Forecast

1.30
1.25
1.20
Mar-13

Mar-14

Mar-15

USD/KRW
1400
1350
1300
1250
1200
1150
1100
1050
1000
950
Mar-12

EURPLN
EUR/PLN

25 Delta S trikes

5.10

MS Forecast

24

MS Forecast

35
33
31
29

Mar-13

Mar-14

Mar-15

27
Mar-12

Mar-15

USD/ZAR
15.0
14.0
13.0
12.0
11.0
10.0
9.0
8.0
7.0
6.0
Mar-12

Mar-13

Mar-15

23
Mar-12

25 Delta S trikes

USDBRL

Mar-13

Mar-14

MS Forecast

Mar-15

25 Delta S trikes
MS Forecast

Mar-13

USDMXN
USD//MXN
18.00

Mar-14

USDZAR

MS Forecast

25 Delta S trikes

25 Delta S trikes

37

25

3.90

3.30
3.10
2.90
2.70
2.50
2.30
2.10
1.90
1.70
1.50
Mar-12

39

26

4.10

Mar-15

MS Forecast

27

4.30

Mar-14

USD/THB

28

4.50

Mar-14

Mar-13

USDTHB

25 Delta S trikes

29

Mar-13

MS Forecast

EURCZK

4.70

USD/BRL

Mar-15

EUR/CZK
30

4.90

3.70
Mar-12

Mar-14

Mar-15

25 Delta S trikes

USDKRW

1.35

1.15
Mar-12

Mar-13

Mar-14

MS Forecast

AUDUSD
AUD/USD
1.10

25 Delta S trikes

Mar-13

Mar-13

USDCAD
USD/CAD
1.30

EUR/CHF
1.45

25 Delta S trikes

Mar-14

Mar-15

USDCLP
USD/CLP
690

25 Delta S trikes
MS Forecast

17.00

640

25 Delta Strikes

MS Forecast

16.00

590

15.00
14.00

540

13.00

490

12.00
Mar-13

Mar-14

Mar-15

11.00
Mar-12

Mar-13

Mar-14

Mar-15

440
Mar-12

Mar-13

Mar-14

Mar-15

Source for all charts: Morgan Stanley Research, Bloomberg; shaded area is the range of market forecasts. 25 delta strikes are derived from respective implied volatility.

28

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Morgan Stanley Global Currency Forecasts
• We updated our G10 and EM forecasts in the week of December 2.
Current

EUR/USD
USD/JPY
GBP/USD
USD/CHF
USD/SEK
USD/NOK
USD/CAD
AUD/USD
NZD/USD
EUR/JPY
EUR/GBP
EUR/CHF
EUR/SEK
EUR/NOK
USD/CNY
USD/HKD
USD/IDR
USD/INR
USD/KRW
USD/MYR
USD/PHP
USD/SGD
USD/TWD
USD/THB
USD/BRL
USD/MXN
USD/ARS
USD/VEF
USD/CLP
USD/COP
USD/PEN
USD/ZAR
USD/TRY
USD/ILS
USD/RUB
RUB basket
EUR/PLN
EUR/CZK
EUR/HUF
EUR/RON
MS Dollar Index
MS AXJ Index

1.36
102
1.64
0.90
6.48
6.14
1.07
0.90
0.82
139
0.83
1.23
8.83
8.36
6.09
7.75
11980
61.7
1060
3.22
43.8
1.25
29.6
32.2
2.39
13.0
6.20
6.29
533
1949
2.80
10.43
2.05
3.52
33.1
38.5
4.20
27.47
302
4.47
81.11
106.85

1Q

2Q

2014
3Q

4Q

1Q

2015
2Q

3Q

Consensus

Forward

1.34
103
1.62
0.91
6.79
6.16
1.03
0.95
0.84
138
0.83
1.22
9.10
8.25
6.08
7.80
11600
62.0
1050
3.21
43.7
1.26
29.6
32.2
2.45
13.0
6.74
12.00
530
1950
2.90
10.50
2.10
3.52
33.5
38.6
4.18
27.00
296
4.42
81.22
107.34

1.31
103
1.60
0.94
7.06
6.37
1.07
0.93
0.83
135
0.82
1.23
9.25
8.35
5.99
7.80
11800
64.0
1025
3.24
44.2
1.27
29.8
32.5
2.53
12.9
7.23
12.00
535
1930
2.92
10.80
2.15
3.50
34.0
38.7
4.14
27.00
295
4.40
82.83
107.26

1.27
106
1.58
0.98
7.32
6.65
1.11
0.91
0.82
135
0.80
1.24
9.30
8.45
5.99
7.80
12200
64.0
1000
3.27
44.6
1.28
29.9
32.7
2.65
12.8
7.71
12.00
538
1940
2.94
10.90
2.17
3.50
34.5
38.7
4.10
27.00
295
4.40
85.21
107.16

1.24
109
1.57
1.01
7.58
6.90
1.12
0.90
0.81
135
0.79
1.25
9.40
8.55
5.91
7.80
12400
63.0
1000
3.30
45.1
1.29
30.0
33.0
2.60
12.5
8.20
12.00
540
1950
2.95
11.00
2.17
3.48
35.0
38.8
4.06
27.00
294
4.38
86.79
107.23

1.20
112
1.53
1.06
7.75
7.17
1.14
0.87
0.78
134
0.78
1.27
9.30
8.60
5.84
7.80
12600
64.0
1000
3.34
45.5
1.31
30.2
33.3
2.56
12.3
8.70
14.00
545
1955
2.96
10.80
2.20
3.46
35.3
38.4
4.04
27.00
292
4.35
89.17
106.81

1.19
115
1.50
1.08
7.73
7.14
1.17
0.85
0.76
137
0.79
1.28
9.20
8.50
5.87
7.80
12800
65.0
1000
3.37
46.0
1.32
30.4
33.4
2.59
12.1
9.20
14.00
550
1960
2.97
10.50
2.20
3.45
35.5
38.5
4.02
26.75
290
4.33
90.86
106.04

1.20
118
1.48
1.08
7.63
7.04
1.18
0.82
0.73
142
0.81
1.30
9.15
8.45
5.81
7.80
13000
66.0
1000
3.40
46.4
1.33
30.5
33.5
2.61
12.0
9.70
14.00
555
1965
2.98
10.50
2.10
3.44
35.8
39.0
4.00
26.50
290
4.33
91.66
105.61

1.23
121
1.46
1.07
7.48
6.91
1.19
0.82
0.73
149
0.84
1.31
9.20
8.50
5.74
7.80
13200
67.0
1000
3.44
46.9
1.35
30.7
33.6
2.65
12.0
10.20
14.00
555
1970
3.00
10.30
2.10
3.43
36.0
39.7
3.97
26.25
288
4.30
91.85
105.22

-3.1
0.0
0.6
0.8
11.5
11.6
3.7
1.1
2.5
-99.4
-3.7
-1.6
10.6
11.3
-1.5
0.5
6.5
0.8
-5.7
2.0
4.8
4.3
2.9
2.5
10.6
0.0
5.8
53.8
2.9
1.6
5.4
8.7
5.9
-2.0
4.9
3.3
0.2
0.4
1.0
0.7

4Q13 % change to:

G10 and EM forecasts were updated Dec 2, 2013. Source: Morgan Stanley Research

29

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Appendix
The Strategic FX Portfolio Trade Recommendations page presents the portfolio of tactical trade ideas of the FX Strategy team and the
performance of this portfolio over time.

Strategic FX Portfolio Trade Recommendations (Note: The portfolios represent hypothetical not actual investments.)
 On 10 June, 2010, we implemented changes to our portfolio to make it more robust and to better reflect our confidence levels and
relative risk. A detailed explanation of this change can be found in “Portfolio Methodology Update” (10 June 2010).
 In summary, the trades and the weightings are primarily reviewed weekly on Thursdays and published in the Pulse. However, if we
think there has been a material change to the risk-reward, we will make intraweek changes. We monitor trades daily. We will continue
to publish the portfolio as a list of trades where our strongest conviction ideas will be given the largest weightings. We will, however,
also adjust the weights of trades in order to manage our risk exposure.
 A table showing the trade, trade weight, trade entry date, risk allocation and levels for (average) entry, current, stop and target will be
shown in the Strategic FX Portfolio Trade Recommendations section of the FX Pulse.
 If we increase the weighting allocated to a trade, the entry level published in the table will be changed to reflect a proportionally
weighted rate of the initial entry level and the entry level on the date the weight was increased.

Performance Statistics
 We rebalance our portfolio daily at the NY close to keep the weight of each trade consistent with the published weight.
 We will primarily enter and exit trades using the bid or offer rate of the WMR fixing. If we make an intraday change to our portfolio, we
will cite the closest Bloomberg half hourly fix in our published note and enter/exit at this rate.
 Stops or targets will be triggered if the stated level is met at the WMR fix.
 Returns shown include the cost of carry using the 1W interbank deposit rate if this is quoted liquidly but do not include any other
expenses, slippage or fees and no interest on cash holdings are included. Reported returns are not levered.
 We have re-estimated our returns from 22 June 2006 to 10 June 2010, when we re-launched the portfolio, to take into account our
more robust calculation technique.
 We provide a monthly breakdown of our historical portfolio performance back to Jan 2005 in the Strategic FX Portfolio section of the
Pulse.
The FX Tactical Indicators table highlights the most recently updated indicators we, as a research team, use as inputs to generate both
longer and more tactical forecasts. Matrix charting codes are given in brackets. Change the G10 currency in italics as required.
•Historical Currency Performance: Price changes in currency over the past week and past month. (EURUSD)
•Risk Adjusted Yields: Nominal five year yields adjusted for five year CDS (weighted average for EUR). (MSRAUS5Y)
•Relative Momentum Indicator: Measures the momentum of a currency relative to all other currencies; not indicative of historical
performance. (MSRMUS)
•MS GRDI*: An index to assess risk sentiment. It looks at ten different asset classes to gauge risk demand. The GRDI index seen in the
graph is a standardized reading of the index based on the 365-day rolling average. (GRDIIDX)
•G10 Surprise Index: Measures the performance of actual economic data in G10 countries relative to expectations. G10 Average Index
is a simple index; G10 GDP weighted average is based on GDP weights. (MSSIUSD)
•IMM Commitment of Traders Report: The “Aggregate USD Index” is the cumulative aggregate positioning of currencies we track on
the IMM against the USD. We combine IMM positioning on the AUD, CAD, CHF, EUR, GBP, JPY, and MXN to calculate an aggregate
USD index to measure overall net positioning. (MSPIUS)
FX Positioning Tracker Methodology (MSPIUS) See the primer
•MS Flow - Our internal flow data track all spot and forward trades transacted by Morgan Stanley FX globally.
•IMM - We use the US Commodity Futures Trading Commission’s IMM report to track positioning of non-commercial traders.
•Toshin - The Toshin accounts are Japanese foreign currency investment trusts that seek yield abroad. They typically cater to retail investors and
offer a higher return by investing in foreign assets on a currency un-hedged basis.
•TFX - The Tokyo Financial Exchange (TFX) measures Japanese currency trading on margin accounts, and comprises an estimated 10% of the
retail margin market.
•Beta - As an alternative proxy for positioning, our Beta-Tracker measures one-month rolling betas of currency managers’ and global macro
hedge funds’ daily returns on major currency indices.
•Sentiment - The Daily Sentiment Index gathers opinions on all active US futures, eurozone interest rates, and eurozone equities futures markets.

Morgan Stanley FX High Frequency Misalignment Monitor Methodology: See the full report (MSSTMEUR)
Historical data for the FX Tactical Indicators and Positioning Tracker are available on the Morgan Stanley Matrix Platform.

* US Pat. No. 7,617,143.

30

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

Global FX Strategy Team
Head of Global FX Strategy (London)
Head of EM Macro Strategy (New York)

Hans Redeker, Managing Director
Rashique Rahman, Managing Director

hans.redeker@morganstanley.com
rashique.rahman@morganstanley.com

(+44 20) 7425 2430
(+1 212) 761 6533

Head of US FX Strategy Team
Currency Strategist (New York)
Currency Strategist (New York)

Gabriel de Kock, Executive Director
Evan Brown, CFA, Associate
Vandit D. Shah, Analyst

gabriel.de.kock@morganstanley.com
evan.brown@morganstanley.com
vandit.shah@morganstanley.com

(212) 761 5154
(212) 761 2786
(212) 761 1890

Head of European FX Strategy
Currency Strategist (London)
Currency Strategist (London)

Ian Stannard, Executive Director
Dara Blume, Associate
Sheena Shah, Analyst

ian.stannard@morganstanley.com
dara.blume@morganstanley.com
sheena.shah@morganstanley.com

(44 20) 7677 2985
(44 20) 7425 5749
(44 20) 7677 6457

AXJ FX & Rates Strategy
Rates/FX Strategist (Hong Kong)
Currency Strategist (Hong Kong)
AXJ Strategy (Hong Kong)

Geoffrey Kendrick, Executive Director
Kewei Yang, Executive Director
Calvin Tse, Associate
Kritika Kashyap, Associate

geoffrey.kendrick@morganstanley.com
kewei.yang@morganstanley.com
calvin.tse@morganstanley.com
kritika.kashyap@morganstanley.com

(852) 2239 7399
(852) 3963 0562
(852) 3963 0551
(852) 2239 7179

Global FX/EM Quantitative Strategist (New York)
LATAM Macro Strategy (New York)
LATAM Macro Strategy (New York)

Juha Seppala, Vice President
Felipe Hernandez, Vice President
Robert Habib, Associate

juha.seppala@morganstanley.com
felipe.hernandez1@morganstanley.com
robert.habib@morganstanley.com

(212) 761 1949
(212) 296 4996
(212) 761 1875

Global EM Macro Strategy (London)
CEEMEA Macro Strategy (London)

James Lord, Vice President
Meena Bassily, Associate

james.lord@morganstanley.com
meena.bassily@morganstanley.com

(44 20) 7677 3254
(44 20) 7677 0031

Morgan Stanley entities: London – Morgan Stanley & Co. International plc; New York – Morgan Stanley & Co. LLC; Hong Kong – Morgan Stanley Asia Limited.

31

MORGAN STANLEY RESEARCH
December 05, 2013
FX Pulse

This material includes trade flow data that have been compiled by the Morgan Stanley Foreign Exchange trading desks from transactions executed
by Morgan Stanley in the over-the-counter foreign exchange markets with its global institutional and high net worth individual customer base. The
data have been aggregated and anonymized in a manner that does not identify the underlying transactions of any particular customer. In compiling,
interpreting, and analyzing the data, Morgan Stanley makes certain assumptions, which may vary over time, relating to the classification of an
account as a client. No representation is made that the aggregated data are reflective of trading patterns or trends in the markets included in this
material for any particular type of customer.

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32

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December 05, 2013
FX Pulse

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12-5-13 po

33

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