FxWirePro: Unwind and stay long in Scandis on central bank policies

Long BRLNOK trades have to be unwound, this LatAm/Scandi trade was opened to fetch carry in a lower beta approach. This theme still looks to be attractive, trade particularly now seems vulnerable to rising oil prices as well as the broader trend of European currency strength vs USD.

In conjunction with an already less dovish Norges Bank, this lowers our conviction in the use of NOK as a funding currency in the coming weeks. On BRL, the assessment of our EM strategists is that risk-reward still favors longs with fundamentals improving and reduced political risk in focus.

The Swedish krone was hurt after the summer due to strong euro appreciation and a particularly dovish Riksbank communication. However, after testing and rejecting horizontal resistance at 10 in November 2016 and November 2017, the EURSEK is likely to have formed a double top. Like the EUR/NOK, the pair is now likely to head lower, suggesting that the SEK is going be more robust to euro strength.

The much-awaited Riksbank meeting arrived in December. On balance, this was a moderate positive for SEK as the central bank decided against an additional tranche of QE and maintained the rate path from October that envisaged the first hike in the mid of 2018.

The caveat was that the Riksbank will re-invest the SEK 50bn proceeds of a bond that matures in 1H19 from the start of 2018. This wasn’t tantamount to additional permanent QE insofar as the early reinvestment does not change the endpoint for the Riksbank’s balance sheet. It did, however, serve to change the profile of the balance sheet and lead to a temporary increase through 2018.

In that sense, it could be regarded as temporary QE. With the December MPR, the Riksbank set out a very grudging exit from the super-easy monetary policy. The inflation forecast was revised higher for 2018 by -0.2-0.3- ppt and at essentially 2% for the second consecutive year, the Riksbank is forced to acknowledge that monetary policy is well on its way to achieving its price objective.

But as ever with the Riksbank, it was reluctant to signal a clean break with the past and the decision to bring forward the reinvestment of the SEK 50bn bond redemptions from 1H19 will temporarily grow its balance sheet by just under 20% even as it begins the process of rate normalization. This juxtaposition of rate hikes and continued, albeit now temporary, balance sheet expansion is highly unusual and demonstrates that the Riksbank is not willing to entirely relinquish its grip on the curve and the currency even as it begins the slow process of rate normalization (hikes of 25bp in 2018 and 50bp in 2019).

The early reinvestment thus dilutes but shouldn’t entirely negate the constructive read-through for SEK from the confirmation that the drag from highly negative policy rates will lessen next year. This development, compounded with strong regional growth and favorable seasonals for SEK keep conditions intact for SEK outperformance on the crosses.

As EUR strength should support the NOK and SEK, we prefer staying long in a 6m 9.60 EUR put/SEK call. Paid 57.2bp November 21. Revalued at 65.4bp. Courtesy: JPM