EURNOK: 5 reasons behind stronger krone

Summary:

• Norges Bank signals a rate hike as soon as September this year
• Oil prices point to upside risks for the Norwegian krone Interest rate market favours lower levels on EURNOK
• Tighter policy in Riksbank and Norges Bank may increase Scandinavian currencies’ appeal

The Norwegian krone has been in a moderate bull market against the euro lately, but the pace could accelerate soon on the back of a recent shift of Norges Bank’s rhetoric. Furthermore, there are more reasons to justify the stronger Norwegian currency which we would like to present in this analysis.

NOK short term interest rates still point to room to appreciate for the krona. Source: Bloomberg, XTB Research

Even as the EURNOK has moved lower against the shared currency over the recent weeks it keeps trading at relatively elevated levels given the past performance. Taking into consideration that the European Central Bank will hold off on hiking rates at least for another year (it flagged that any rate hikes until summer 2019 were unlikely) and the Norges Bank will deliver a rate increase as soon as September this year, one may suspect the pair has a chance to continue nudging lower over the upcoming weeks or even months. Notice that from a fundamental point of view the NOK is placed among the most undervalued major currencies as for now.

NOK TWI is trading around one standard deviation from its 20Y average. Source: Macrobond, XTB Research

Therefore, once the macroeconomic environment fosters the NOK, scope for appreciation seems to be quite abundant. Let us remind that the Norwegian monetary authorities have recently sharpened their tone describing the economic backdrop as buoyant and warranting monetary tightening already in September. What’s the most important for currency traders is that a possible rate hike (by 25 basis points) has yet to be fully priced in implying still some room for the NOK to gain solely on the back of this rate increase.

Brent prices and the EURNOK has been moving in the same direction (oil has been given a reverse axis) over the recent months, but the relationship has diverged lately. Source: Bloomberg, XTB Research

The second reason for the stronger NOK could come from the oil market which has been in the spotlight recently. Let’s recall that the OPEC and non-OPEC countries decided to increase production by 0.7 mbpd (on a net basis) and that saw oil prices soaring as expectations had pointed to a much higher increase. Since then we have seen a steady uptrend till the past weekend when US President Donald Trump chose to weigh in. He tweeted on Saturday that oil prices were too high because of the turmoil and dysfunction in Iran and Venezuela, and therefore he was to agree with Saudi Arabia’s King Salman to increase output maybe up to 2 mbpd.

Notice that the mentioned amount of 2 mbpd equals the entire spare capacity of Saudi Arabia yet the Kingdom did not even mention how much it could boost output, and basically it did only agree with Donald Trump that Venezuela is in the output crisis. In a knee-jerk move oil prices (especially Brent) went down, but the move was not substantial as traders thought through the story drawing the conclusion that a 2 mbpd output pick-up is remarkably unlikely. Therefore, given the present discrepancy between the EURNOK and Brent prices, and weighing it against quite a contained risk of a huge oil prices slump (stemming from the latest Trump/Saudi Arabia story) one may conclude that the NOK might still benefit from relatively expensive oil.

The interest rate market keeps favouring the NOK over the euro, which seems to make even more sense due to a more hawkish Norges Bank stance. Source: Bloomberg, XTB Research

The bond market is also favouring the Norwegian krone over the shared currency as the 10Y yield spread has widened since the beginning of the year. Taking into account the current stance shared by the Norwegian monetary authorities one may assume that this spread could keep widening as the bank is preparing market participants for a rate hike in three months. Bear in mind that the central bank rates differential between Norway and EMU should also increase once the ECB does keep to its recent notion that rates are unlikely to be lifted until the summer 2019. Simultaneously, the Norway’s central bank may continue hiking rates in a gradual manner after the first move made (possibly) in September given the current macroeconomic conditions there. If so, the EURNOK may move lower.

Last but not least, the Riksbank is also on course to begin its monetary tightening at the end of this year, a move which could increase Scandinavian currencies’ appeal in general. Keep in mind that both NOK and SEK are among the most undervalued major currencies based on a REER approach hence scope to a rise ought to be quite notable. Finally, even as internal political concerns in Germany have settled down so far after Merkel and Seehofer reached a migration agreement on Monday, those risks could re-emerge anytime in the future as the CDU/CSU alliance does not seem to be a unity. It poses a longer-term risk to the euro.

Looking at the weekly chart of the EURNOK one may notice that the pair has been falling moderately since the start of the year, but recently the cross has moved through quite a relevant technical support at 9.54. This level coincides with a 38.2% retracement of the upward move that begun in February last year. Moreover, the ongoing downtrend is being kept in check by the downward-sloping trend line, which enhances importance of the mentioned technical level (9.54). As for now the major level which bears need to deal with is placed at 9.40 (it’s also supported by a 50% retracement of the same move), and if they do so successfully, then room to move at least toward a major trend line could be open. Given the state of play at the chart one may consider entering a short with quite a tight stop placed above 9.54 and a target nearby 9.20. Source: xStation5