The shift from a neutral stance partly resulted from a view change on the offshore yuan, where the Wall Street giant has added a short position given expectations for growth risks to remain a focus, strategists led by James Lord wrote in a note. “CNH weakness and China macro weakness should spill over to the rest of EM.” 

Morgan Stanley is among a group of prominent peers that have recently cut forecasts for China’s 2023 economic growth, following a run of disappointing data and a lack of potent fiscal or monetary stimulus. The yuan has slumped nearly 6% against the dollar this year, nearing its weakest level since 2007 despite Beijing’s ramped-up efforts to support the currency.

Asian currencies, particularly the Singapore dollar, baht, won and ringgit look most exposed to a China growth slowdown, while EM peers including the rupee and Turkish lira may be better positioned, Morgan Stanley’s strategists wrote. 

In sovereign credit, Panama, Zambia, Angola and Ecuador may have the biggest downside exposure to a weakening Chinese economy given the trade links and how sensitive their bonds are to the offshore yuan’s performance, according to the note. 

“We are not expecting a significant rebound in sentiment towards China’s outlook in the short term,” the strategists wrote, citing low private-sector confidence, deleveraging in the property sector and longer-term issues from debt to demographics.

Morgan Stanley isn’t the only Wall Street bank foreseeing yuan weakness either. Goldman Sachs Group also expects yuan softness to extend with weak exports, sluggish domestic consumption and deflationary pressures, according to a note written by strategists led by Danny Suwanapruti. 

However, the Chinese central bank’s support measures will moderate the pace of yuan depreciation, Goldman Sachs said. “One key market concern is whether a weaker CNY will spur significant capital outflows. However, FX reserves are high, commercial banks’ external assets have been built up and the PBOC has tightened capital outflow channels.” DM