Morgan Stanley Stays Bullish on the Dollar Amid Trade Tensions

(Bloomberg) -- Morgan Stanley is sticking to its bullish stance on the dollar, citing a resilient U.S. economy and bets for rising interest rates. The bank also expects tariff negotiations to lead to a positive outcome that will allow America's trade deficit to narrow.

Risk markets should recover as there is little reason for them to react to growth concerns at a time when the U.S and Chinese economies are performing well, strategists including Hans W Redeker wrote in an April 5 note. The dollar “will see the initial positive reaction to rebounding risk appetite, with U.S. rates expectations lending support,” they wrote.

The Bloomberg Dollar Spot Index has extended losses this year after declining 8.5 percent in 2017, hurt by simmering U.S. trade tensions and concern over America's deficits. China said Friday it would counter U.S. protectionism "to the end, and at any cost," after President Donald Trump ordered his administration to consider tariffs on an additional $100 billion in Chinese goods.

While a full-blown trade escalation leading to a meaningful growth setback remains a tail risk, Morgan Stanley's base case assumes that negotiations will result in an outcome that allows the U.S. trade deficit to narrow.

“There is too much at stake for all parties involved to allow a broad-based escalation,” the MS strategists wrote. “On one hand, the U.S. administration appears averse to stock market volatility. Similarly, China has little interest in an escalating conflict as it requires stable global growth conditions to continue its balance sheet deleveraging strategy and rebalance its economy.”

A recovery in risk markets should weaken the Japanese yen, Swiss franc and the euro, they wrote, adding that eurozone data would need to rebound for the single currency to appreciate.

An unexpected rise in U.S. inflation is the key risk to Morgan Stanley's dollar strategy, according to the report.

To contact the reporter on this story: Ruth Carson in Sydney at rliew6@bloomberg.net.

To contact the editors responsible for this story: Tan Hwee Ann at hatan@bloomberg.net, Shikhar Balwani

©2018 Bloomberg L.P.