As April 2 approaches, Morgan Stanley: It's time to pause shorting the dollar

Morgan Stanley suspends bearish outlook on the US dollar index, advising investors to reduce holdings in euros and pounds before the tariff deadline.

In a research report on March 20, Morgan Stanley stated that current optimism around the euro is overvalued, and the risk-reward ratio is no longer favorable. Investors should closely monitor the impact of the US tariff deadline on April 2.

According to CCTV News, US President Trump reiterated during a joint session of Congress on March 4 that reciprocal tariffs would begin on April 2. Tariffs on agricultural products will also take effect on April 2. Morgan Stanley recommends cautious operations before the deadline, considering closing long positions in euros and pounds to avoid potential risks.

So far this year, the US dollar index has fallen nearly 6%. Although they are temporarily suspending their bearish outlook on the dollar index, Morgan Stanley's report indicates that in the medium term, investors may still price in US interest rate cuts and further adjust their portfolio direction towards regions outside the US. Therefore, Morgan Stanley believes it is wiser to short the dollar at more attractive levels in the future than to hold positions at the current level.

Suspending shorting the dollar, euro exchange rate has priced in appreciation expectations

Morgan Stanley analysts believe that investors may begin to close their dollar short positions in the coming weeks.

Fundamentally, the upcoming tariff deadline on April 2 may limit investors' willingness to take on further risks. Given the current high exchange rates, this is unfavorable for the euro and pound for two reasons:

• First, the risks surrounding this baseline scenario are high, and analysts suspect that investors may be less willing to hold large risk positions in the face of such a situation.

• Second, Morgan Stanley believes that investors' focus on tariffs is mainly on North American partners and China, with relatively less attention on the EU and the UK. Widely announced reciprocal tariffs may increase the implied risk premium of the euro, especially the pound.

Additionally, the market may have overly optimistically digested the expectations for euro appreciation, with the current trading price of euro/dollar slightly above the fair value implied by interest rate differentials and equity differentials.

• The 2-year interest rate differential and equity differential have both narrowed.
• The fair value implied by interest rates is about 1.07, while the fair value implied by equities is about 1.10-1.11.
• On average, the fair value estimate is about 1.08-1.09, slightly lower than the current spot level.