Denmark next in line to cut after SNB move

• Downwards pressure on EUR/DKK is mounting following the SNB’s move today.

• It supports our call for a unilateral Danish 10bp cut of the key policy rate to minus 0.15% in Q1 this year.

• The market is now pricing a 10bp rate cut in Denmark over the coming one to two quarters.

EUR/DKK fell to 7.4350 on the news from the SNB, which could potentially create new inflow to Denmark from Switzerland on the back of this decision, as Denmark offers a higher interest rate (the key policy rate in Denmark is currently minus 0.05% versus minus 0.75% in Switzerland) and low FX volatility.

This could give rise to increased downward pressure on EUR/DKK, which we have already seen, following the SNB announcement and thus put pressure on Danmarks Nationalbank (DN) to conduct FX intervention and potentially cut interest rates.

EUR/DKK is currently around the level that triggered intervention in Q4 last year. In the period September-November 2014, DN made FX intervention purchases for DKK6.9bn – it would probably take another DKK10-15bn to trigger an independent Danish rate cut.

Furthermore, the market could speculate that DN will also be forced to move the floor under EUR/DKK, which could add to the downward pressure. However, we expect DN to maintain a lower bound on EUR/DKK, which is probably around the level of 7.4300 that EUR/DKK reached in 2012 and not significantly lower than the historical low (since the current regime started in 1999) of 7.4234. Formally, DN is obliged to keep EUR/DKK above 7.29252 according to ERM II.

With the move today, SNB sets new standards for policy rates at minus 0.75%. The previous low in Denmark was minus 0.20% in 2012. The SNB experiment with a policy rate at minus 0.75% may serve as inspiration for other central banks, e.g. DN, to move policy rates deeper into negative territory if necessary.

The SNB rate cut has put downward pressure on short-end EUR rates, which have fallen some 1-4bp today. Consequently, the market is now pricing in that 3M Euribor will decline to zero and the Eonia O/N is priced to decline to minus 0.12%. Given the current measures and the expectation of more QE from the ECB, we would not be surprised to see an Eonia O/N falling as low as -0.15% and, ultimately, 3M Euribor fixings could decline to around -0.05%.

In Denmark, short-end rates (0-12M segment) have tracked the move lower in EUR rates. In the 1-3Y segment, DKK rates have fallen slightly more than EUR rates. The decline in short-end DKK rates is consistent with the increased probability of a unilateral Danish rate cut or increased liquidity in the coming months. However, the latter is not that likely in our view, as the liquidity situation is not expected improve in the near term.

The current market pricing implies that Cita T/N and 3M Cibor fixings will decrease some 10bp over the coming one to two quarters, which in our view is consistent with a 10bp Danish rate cut and in line with our forecast of a unilateral Danish rate cut during first quarter of 2015. Until today, this forecast was based on an expectation that the ECB would significantly boost its balance sheet. Now with the SNB move, our expectation has only been reinforced and there should be potential to price in even more cuts going forward.