FX Strategy NOK to stay weak into year-end; rally in 2015 on growth

Transcription

1 Investment Research General Market Conditions 11 November 2014 FX Strategy NOK to stay weak into year-end; rally in 2015 on growth Over the past month, we have been wrong on the NOK as oil prices and Norwegian macro data have softened more than we had anticipated. Hence, we are reviewing our NOK outlook and strategy. Downside risks to oil prices and Norwegian growth will weigh on the NOK near term. Medium term, we still believe that the market is too bearish on Norwegian growth. In addition, we forecast that Norges Bank will remain on hold until it begins to raise rates in early Over the coming three months, we expect EUR/NOK to be choppy and volatile in broad ranges of From Q1 15, we expect NOK to appreciate against trading-partner currencies supported by growth, carry and stabilising oil prices. Norwegian asset managers should lower short-term FX hedge ratios versus the USD. Norwegian exporters should maintain neutral FX hedge ratios versus EUR and SEK receivables; lower them against USD. FX economics Growth: downside risks on oil; fiscal boost, investments to mitigate slowdown Lower oil investments are dampening growth now and will do so in Based on the recent oil investment survey, we expect oil investments to drop 10% in 2015, subtracting roughly 0.6pp off mainland GDP. However, there are a lot of factors partly counteracting these negative effects: Stronger global growth and a weaker NOK will support the mainland export industry. Parts of the oil-related industries are turning to the global offshore markets, where oil investments are holding up. Chart 1: Norway s GDP growth to hold up despite weaker oil investments Global Head of FICC Research Thomas Harr thhar@danskebank.dk Chief Economist, Norway Frank Jullum frank.jullum@danskebank.dk Source: Macrobond, Danske Bank Markets Important disclosures and certifications are contained from page 6 of this report.

2 Fiscal policy continues to support the construction sector through significant public infrastructure projects. Employment growth in the construction sector was 2.4% in Q2. Residential investment is expected to pick up strongly on the back of an improving housing market and increased undersupply. Bank lending standards are leaner and lending margins are falling. Indeed, the recent drop in oil prices below USD85 p/b has increased downside risks to the Norwegian growth outlook. The main effect stems from an increasing share of possible developments falling below the break-even line. Even so, analysis provided by Rystad Energy suggests that roughly 75% of expected projects (total amount USD3,300bn) are still profitable at oil prices considerably lower than USD80 p/b, reducing the downside risk at least for Hence, we expect oil investments to drop 10% in 2015 and then increase moderately in In addition, the latest depreciation of the exchange rate will provide further support for the export industries, further reducing downside risk. As a result, we stick to our GDP growth estimate of 2.2% in 2015, based on the assumption that oil prices stabilise around p/b. Inflation and monetary policy: the market is too dovish on Norges Bank Core inflation is expected to stabilise around % for the next couple of years, i.e. marginally lower than the central bank s target of 2.5%. Domestic inflation will probably drift downwards from the current 3% level, as wage growth slows and productivity growth improves. On the other hand, we now expect imported inflation to pick up as the exchange rate has failed to appreciate as expected. In addition, the recent depreciation of the NOK will lift imported inflation markedly if sustained. As a result, core inflation will move towards 3% y/y in H1 15. Inflation hovering around the target, a moderate increase in unemployment and an unsustainable rise in housing prices should keep Norges Bank on hold for a long time until early 2016 when we expect the first rate hike. In short, the negative effect from lower oil prices on the inflation outlook is more than counteracted by the depreciation of the NOK. Current market pricing suggests a close to 1/3 probability of a 25bp rate cut in December and a bit more than one cut priced in before June Looking at the factors affecting the central bank s rate path, the weaker NOK and lower mortgage rates will contribute to an upward adjustment of the rate path of roughly 50bp at the end of next year. Even with lower global rates and lower global rates, the current market pricing is only justified if domestic growth dips to the % area. This seems a bit too pessimistic, in our view. Chart 2: The market is too dovish on Norges Bank % 2,4 Central Bank of Norway, Estimate Danske Bank Forecast Market Pricing 2,2 2 1,8 1,6 1,4 1,2 1 Source: Norges Bank, Danske Bank Markets 2 11 November

3 External balances: downside risks from lower oil prices A lower oil price results in weaker external balances. The government assumption of an oil price at NOK650 p/b in 2015 is expected to result in a current account surplus of 9.8% of GDP. If the oil price and the USD/NOK stay at these levels, the current account surplus will fall to 7.5% of GDP. This compares with Norway s Q2 current account surplus at 11.37% of GDP. Note that this is a partial analysis, not taking into account the effect on the mainland export from a weaker currency. Flows: Norges Bank to provide some caution against falling oil prices In October and November, Norges Bank has been buying NOK250m per day as the taxes in NOK are not sufficient to cover the spending of petroleum revenues. Based on the assumptions in the 2015 Fiscal Budget, we expect Norges Bank to be buying NOK250m per day in December. Looking further ahead, we believe Norges Bank will have to buy roughly NOK40-50bn in 2015, i.e. between NOK m per day. An interesting observation is that Norges Bank will have to increase the buying of NOK if the oil price drops below the expected NOK650 per barrel. A rule of thumb indicates that oil taxes in NOK will drop by NOK2.5bn for every NOK10 per barrel the oil price drops. Hence, if the oil price stays at the current level (NOK560 p/b), the amount of NOK purchased by Norges Bank will increase by NOK22.5bn in 2015, i.e. NOK90m per day. In terms of speculative flows, foreign banks were sellers of NOK in the week ending 1 November to the size of NOK5,010m. As such, accumulated NOK selling over the past four weeks amounts to NOK17bn, which is the largest fourth week accumulated selling since July. As such, we believe that the speculative community is lightly positioned in NOK. We note that Japanese investors have been significant sellers of NOK assets during (see Strategy BoJ pulls the rabbit out of the hat USD/JPY targets 118, 31 October 2014). However, aggressive BoJ easing and pension reforms could reverse that trend given better valuations and Norway s solid fundamentals. Chart 3: Norges Bank NOK buying should provide some caution Chart 4: Positioning does not pose a barrier for a stronger NOK Source: Bloomberg, Danske Bank Markets Source: Norges Bank, Danske Bank Markets 3 11 November

4 FX outlook Short term (0-3 months): choppy and volatile To sum up, risks are to the downside with respect to oil prices and Norwegian growth. In contrast, with regard to Norges Bank, we see the risks slightly to the upside as the market is pricing in close to a 1/3 probability of a rate cut in December, which we think is too high. In terms of flows, we view the Norges Bank NOK buying as a modest positive for NOK whereas positioning in NOK is light. We see the ECB s commitment to expand its balance sheet to March 2012 levels as a bearish EUR/NOK factor. In light of this, we are revising our forecasts on NOK as the cyclical outlook for Norway is more mixed than we had believed on the back of the sharp fall in oil prices and falling oil investments. In this regard, the OPEC meeting on 27 November will be very important where a cut in supply could provide some stabilisation in the oil price. We expect EUR/NOK to be choppy, trendless and volatile over the coming three months trading in broad ranges between Medium term (+3 months): trend NOK appreciation Over the medium term, Norwegian growth outperformance relative to the eurozone, higher interest rates and stabilising oil prices should support the NOK. Our purchasing power parity (PPP) model suggests that the NOK is cheap. As such, we maintain our medium-term bearish view on EUR/NOK and bullish view on NOK. However, in light of lower oil prices and downside risks to Norwegian growth we believe EUR/NOK will find it difficult to fall below 8.00 on a sustained basis over the coming 12 months. Hence, we believe that NOK/SEK will only grind slowly higher over the coming 12 months. We forecast that USD/NOK will edge higher over the coming three months, stabilising in three-six months, before falling on a six-12 month horizon. The risks to our positive NOK view over the medium term are that oil prices remain at current depressed levels and Norway s GDP growth slows sharply. In such a scenario, the NOK would depreciate against its major trading partner currencies. Table 1: New NOK FX forecast Forecast Spot +1m +3m +6m +12m Exchange rates vs NOK EUR USD SEK DKK Source: Danske Bank Markets 4 11 November

5 FX Strategy Leveraged funds We were stopped out of our short EUR/NOK recommendation from 23 October and are now sidelined in NOK in our FX Trading Portfolio. We believe that the speculative community is very lightly positioned in NOK. Japanese easing, pension reforms and the ECB s commitment to expand its balance sheet to March 2012 levels could provide some support for portfolio flows into Norway and NOK. Short-term momentum indicators for EUR/NOK are rolling over but the 50-day and 100-day moving averages are pointing higher, warning of further gains. Our strategic bias remains to buy NOK given strong Norwegian fundamentals but we are cautious on re-entering long NOK positions now given the near-term downside risks to oil prices and Norway s growth data. We recommend leveraged clients stand aside for now in NOK. Real money funds For Norwegian asset managers that manage their FX risks actively, we recommend lowering FX hedge ratios against the USD and maintain neutral FX hedge ratios versus the EUR and SEK. We expect the NOK to weaken further against the USD near term whereas it is likely to be volatile and trendless versus EUR and SEK. Systematic currency overlay models appear to be underweight NOK, particularly versus USD but increasingly also versus EUR and SEK. Corporates Over the coming three months, we forecast that NOK will slightly outperform EUR and SEK relative to forwards while it will underperform the USD. On a three-12 month horizon, we expect NOK to outperform all trading-partner currencies. Hence, Norwegian exporters should maintain short-dated neutral FX hedge ratios versus SEK and EUR and lower them versus USD receivables. Norwegian exporters should use a sharp sell-off in NOK, say, due to a further collapse in oil prices, to raise longer-term FX hedge ratios versus key trading-partner currencies November

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