Morgan Stanley says to sell any rallies and expect an 11-cent fall

Our trade of the week to be short AUDUSD has caught attention due to its aggressive target of 0.65. Actually we think the level is not out of reach, it was our end 2017 target and we see a risk of hitting that level even earlier than that, but for now we are promoting it as a medium term structural trade. In general, from the China side, loose monetary conditions have caused a housing market boom and thus high commodity imports, but we think the easing will slow in coming months.

As we find again this morning, China's authorities are starting to show signs of clamping down on the housing market. Some regions have used methods to tighten by increasing the down payment required on a house and our China economists no longer expect the PBoC to cut rates this year, a sign that monetary conditions could stop loosening.

From the Australia side, the labour market deteriorated further in September, with an increasing number of full-time jobs being replaced by part-time, weakening the long term earnings and growth outlook for the economy. The RBA's new governor Lowe has suggested that the case for further cuts would be strengthened if the labour market worsened. The market only currently prices 12 bp of cuts by the end of 2017 but our economists expect another 50bp.

The market will be watching the 3Q AU CPI release tonight, where we expect 0.7% QoQ. Consumer confidence fell overnight as expectations of household financial situations in a year from now declined rapidly. The effects of reduced mining sector investment, not replaced by investment in other sectors, should also drag down growth in addition to the weakening expected in Australia's housing market next year. Sure, there is a chance that China keeps on easing at the rate of the past quarters, adding to commodity price and thus AUD support but the effectiveness of piling debt on top of debt is diminishing (as shown by declining returns on investment), suggesting to us that upside is becoming more limited.

Our strategy is to use any rallies to sell the AUDUSD.

Morgan Stanley runs a limit order to sell AUD/USD at 0.7670 with a target of 0.6500 and stop at 0.7750. That's a one-cent risk for 11-cents of potential reward at the moment.

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