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FX Strategy

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Sell GBP/SEK

Fri, Jul 25 2008, 12:47 GMT
by Stefan Mellin

Danske Bank A/S

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When the less-liquid summer period arrives, the SEK tends to underperform and this year was no exception to the rule (see chart]. Given higher risk aversion, soft stock markets, concerns regarding the company reporting season with a special focus on Swedish banks’ credit losses in the Baltics, arguably it makes sense that the SEK has been hammered and that EUR/SEK is trading in the upper end of the historical range. The technical trend, even after the correction, is still favouring the upside. However, in the last two weeks the markets have made a U-turn with respect to risk, stock markets and the oil price. A lot of company reports, in Sweden and abroad, have been better than expected and the Baltic-related credit losses were smaller than generally feared, adding up to a better backdrop for the SEK. At the same time falling orders in the industrial sector support our view of a weaker economy/ labour market going forward. So the outlook is mixed (earnings vs valuation) and it remains to be seen which camp, bulls or bears, will come off best after the reporting season is over.

By contrast, the impact on the SEK from the economic news and fundamentals, e.g. the Riksbank, has been close to negligible: witness first the short-lived impact following the hawkish Riksbank/dovish ECB on 3 July, then the resilience after the surprisingly soft Minutes last week. Hence, while the SEK is still primarily risk driven, the fundamental backdrop is still SEK supportive. We expect two more hikes from the Riksbank this year, starting in September. In the short run, at least over the September meeting (even though it should be acknowledged that the weaker the oil price, the weaker the case for several hikes), we consider it highly unlikely that the “hawks” will give in even if the oil price moderates from the extremes – inflation expectations are still too high. The money market (OIS) is pricing less than one until year end and just above 50/50 for 25bp in September.

While EUR/SEK remains highly sensitive to swings in risk sentiment and stock markets (both in absolute and in relative terms), it has yet to respond fully to lower risk aversion: VIX has dropped from 30 to 21 over the last week (see chart). The sentiment shift suggests an improved environment for potential EUR/SEK sellers, especially considering the levels. Our preferred short-term multivariate EUR/SEK model indicates fair value has dropped from the 9.45/50 area last week to currently just above 9.40. Moreover, checking with the seasonality chart again, it shows that the SEK tends to appreciate as soon as the summer period has passed. Thus, we are SEK buyers, but on a relative basis (risk-reward) we prefer shorting the GBP (we still expect the next step from BoE is a rate cut and wouldn’t read too much into the dissenter Mr Besley, and therefore the rebound triggered by the Minutes rather offers a better selling opportunity) rather than EUR. Technically, EUR/GBP is finding good support around the 0.7820 area. We recommend selling GBP/SEK at 12.00, target 11.65, stop 12.10

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Published on  Fri, Jul 25 2008, 13:05 GMT