What role is the Swedish krona fit to play in institutional investors’ portfolios?
The stocky — a nickname derived from the country’s capital, Stockholm — used to be one of the ultimate bets on global growth, perking up whenever global equity markets did so because of its high exposure to international trade. Sweden’s exports total 50 percent of gross domestic product — a much larger share than that of several larger European countries such as France or Italy.
The currency’s reliably positive correlation with equities and other risk assets, however, has recently begun to fade. The Dow Jones Industrial Average put in an extremely strong performance in September, for example, but the Swedish krona eased down slightly.
If the stocky is no longer a global risk play, what is its new identity?
In the past “the stocky has always had a high beta to global growth,” says Daniel Green, currency strategist and vice -president at J.P. Morgan Asset Management in London. “When the global economy was strong, the Swedish krona did pretty well.” However, Green adds, “what’s changed for the krona now is that there’s been, to some degree, a safe-haven flow going into Sweden” — reducing the beta to growth.
The stocky’s recent safe-haven status was confirmed in May, when the U.S. and other stock markets plunged on global growth fears but Sweden’s currency dipped only slightly.
Green credits Sweden’s safe-haven behavior partly to favorable sovereign debt dynamics. The country’s gross debt, at 49.2 percent of gross domestic product, is under half the Organization for Economic Co-operation average of 99.2 percent. “The bonds are viewed as very creditworthy,” says Green.
Sweden’s “longstanding fiscal prudence” gives it “room for discretionary stimulus to support the economy if the outlook turns out to be weaker than expected by the authorities,” the OECD declared in its economic survey of Sweden, published Monday. This suggests that Sweden is light years away from the debt trap of the peripheral euro zone countries, which lack the elbow room to stabilize their economies, and hence their tax receipts, through fiscal easing.
Could this safe-haven identity be threatened, however, by further cuts in interest rates? On Tuesday Sweden’s Riksbank trimmed its benchmark rate by 25 basis points to 1 percent, blaming a “clear slowdown in the Swedish economy” on “the weak developments in the euro area.” Future rate reductions could reduce the appeal of the stocky by shaving yields on Swedish government bonds. The yield on the benchmark 10-year was 1.54 percent at the end of Tuesday’s European trading, 38 basis points below its gilt equivalent, but 15 basis points above bunds.
Morgan Stanley argues, in a currency note, that the Swedish krona is “increasingly vulnerable” because of worsening Swedish economic data and a consequent rise in expectations of Riksbank rate cutting. In response, a long position in the dollar against the stocky, worth $0.1512 on Tuesday, is “one of our top trades for 2013.” Sweden’s currency is “no longer a safe haven,” says Morgan Stanley, which thinks the Swedish economy will be damaged by a worsening outlook for “core” euro zone countries. Germany is the biggest customer for Sweden’s exports.
Green also warns that the Swedish krona will be hit if poor domestic data prompt further cuts in interest rates. He says the Riksbank places particular importance on the unemployment rate, which jumped 0.4 percentage points to 8.1 percent in November. However, Green points out that the stocky rose on Tuesday after the interest rate decision, because of the Riksbank’s relatively sanguine assessment of the future outlook for Sweden — “somewhat at odds” with markets’ more downbeat expectations.
The central bank stuck to its prediction of a bounce back to strong growth in 2014 and said that it did not expect to cut rates further. At the close of European trading on Tuesday the Swedish krona was worth €0.1145, up a touch on the day.
Mike Riddell, manager of U.K. asset manager M&G Investments’ International Sovereign Bond fund in London, still sees the stocky as resoundingly safe. He acknowledges Sweden’s “worryingly high private debt,” which is widely cited as an economic weakness — but adds that “this is countered by spectacularly low government debt.” Citing other strengths, including an “enormous current account surplus” and “a better banking system,” Riddell concludes: “Recent domestic and external weakness does not change my view that over time the Swedish krona should gradually appreciate against the euro.” Goods exports in the third quarter were down 3.1 percent on the year.
Ben May, European analyst at Capital Economics, the independent macroeconomic consultancy, thinks the Riksbank could halve rates to 0.5 percent if Swedish output is hit badly — as he predicts it will be — by the continuing euro zone debt crisis. But despite this, he thinks the stocky is likely to remain a safe haven against euro turbulence. May says, “If some form of euro zone break-up were eventually to take place the Riksbank might even be forced to contemplate taking unconventional policy action to prevent a rapid rise in the currency.” A currency with ultra-low interest rates is still more appealing to investors than a currency whose very existence is in doubt.
