Morgan Stanley downgrades outlook on US dollar to neutral amid falling Treasury yields after Fed’s dovish pivot

The bank cut its outlook for the US currency to ‘Neutral’ from ‘Bullish’. However, it noted that seasonality and short positioning could potentially still drive further upside, Bloomberg News reported.

“Our conviction about dollar strength has waned meaningfully,” strategists including David Adams wrote in a note.

“US data deceleration has compressed growth differentials, US rates have fallen further compared with peers, and investors appear far from defensive based on equity returns,” said the note.

Earlier, Morgan Stanley forecasted that the Dollar Spot Index would strengthen about 8% from current levels in the second quarter. However, analysts turned bearish on the greenback in December after Fed’s dovish pivot with the Chair Jerome Powell signaling a shift to cutting rates this year.

The dollar index plunged to a five-month low at the end of December, but saw some recovery in the first four days of January.

Morgan Stanley also closed its short euro-dollar trade recommendation, suggesting investors play a short euro-yen position instead. The bank forecasts that the yen will gain as US rates fall and the euro will drop as the euro-area economy continues to weaken, the Bloomberg report said.

A Bloomberg survey showed that the majority of analysts expect a weaker dollar going ahead.

“The cloudier outlook for the dollar doesn’t change the fundamentals for the other G3 currencies,” Adams said.

Meanwhile, hedge funds and banks including Goldman Sachs Group had also turned bearish on the dollar in December.

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