Morgan Stanley Says Dollar Surge Tends to End in Crisis

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(Bloomberg) — The US dollar’s recent rally is creating an “untenable situation” for risk assets including stocks, and in the past this kind of dollar strength has led to some kind of financial or economic crisis, according to one of Wall Street’s most vocal bears.

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“While hard to predict such ‘events,’ the conditions are in place for one,” Morgan Stanley’s chief US equity strategist Michael Wilson wrote in a note, referencing the 2008 global financial crisis, the 2012 sovereign debt crisis and the end of the tech-stock bubble in 2000. The US Dollar Index has risen 19% this year, while US stocks have plunged 23%.

Wilson sees an “eventual low” for the benchmark S&P 500 Index coming later this year or early next at the 3,000 to 3,400 point-level. That implies 13% downside at the midpoint. Futures contracts for the benchmark fell 0.7% Monday, with the gauge set to extend last week’s rout.

The surging dollar hurts the value of US companies’ international sales, with Morgan Stanley calculating that every 1% change in the Dollar Index has a negative 0.5% impact on profits. Fourth-quarter S&P 500 earnings will face an approximate 10% headwind from the stronger currency, in addition to other issues like soaring input costs, Wilson said.

The strategist, who correctly predicted the slump in US stocks this year, said the reaction to FedEx Corp.’s warning earlier this month showed that big earnings disappointments are not yet priced in to consensus estimates.

Meanwhile, Bank of America Corp. strategists, citing EPFR Global data, said on Friday that investors are flocking to cash and shunning almost every other asset class as they turn the most pessimistic since the global financial crisis.

“What’s amazing is that this dollar strength is happening even as other major central banks are also tightening monetary policy at a historically hawkish pace,” Morgan Stanley’s Wilson wrote. “If there was ever a time to be on the lookout for something to break, this would be it.”

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