In its weekly note to clients, Morgan Stanley discusses its current outlook and strategy for trading the USD.
EM rally has legs: "With the help of rebounding risk appetite and rising commodity prices, we expect the EM rally to gain momentum. The detailed read of August trade statistics suggests that rising US imports ultimately mean higher Asian exports. Better Asian export data should help to contain capital outflows, which allows for greater control over monetary conditions. China cutting its RRR and interest rates should boost risk appetite further.
At the same time, markets may put fears of a quick pace of Fed tightening aside. In September, the Fed was appropriately cautious by keeping rates on hold amid low inflation expectations. Markets may anticipate a relatively flat US rate profile going forward, which should take some wind out of USD’s sail," MS argues.
Slowing repatriation: "Nonetheless, our strongest argument for USD coming off from here is found in the analysis of flows. USD has risen on repatriation flows coming on the back of EM portfolio liquidation. Seeing EM portfolio outflows for 11 consecutive weeks (as per our daily EM flow tracker) is unusual, indicating that holdings have been reduced materially. A slight improvement in EM’s macro outlook may lead to a good rebound as investors reassess relative investment returns, especially given the higher yields being offered," MS adds. 
Selling USD tactically: "We have removed all USD long positioning from our Strategic FX Portfolio. We tactically position for USD to lose another 5% from current levels, implying a decline in the Fed’s broad TWI to 113/114," MS advises.
MS runs a short AUD/USD position in its portfolio targeting a move to 0.71.
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