Sunday, December 19, 2010

Currency In short : In early November, EUR/CHF approached the top of our previously indicated trading range

The US dollar - USD 
We have stated for a while that focus in the market will again shift to the European debt crisis and that the dollar will continue to head higher when the question of quantitative easing in the US had been clarified. This scenario came true in November, when the economic crisis in Ireland again brought focus back on the debt-ridden euro-zone fringe countries. For a while, the Irish crisis threatened to take Portugal and Spain down as well via strongly rising bond yields, but so far the increased purchases of government bonds by the ECB has put a damper on the surge in yields.

Although the ECB has increased its support to the government bond markets in the countries hit by crisis, structural problems in the euro zone have not been eliminated, and it will be a while before confidence in the EMU has been restored.As long as the European debt crisis affects the financial markets, it is difficult to see a comeback of the euro.

Furthermore, we believe that the US will weather the crisis better in 2011 than the euro zone and, all things being equal, this will support the dollar – especially if our scenario comes true and the economic indicators behave fairly well over the coming months so that the Fed will not be forced to ease its monetary policy further beyond the initiatives which have already been announced.

Although we did expect a dollar comeback, as mentioned above, we acknowledge that developments have been stronger than we had expected. However, since we still believe that there are more positive than negative triggers for the dollar over the first part of our forecast period, we have raised our forecast for the dollar.

We do not expect that, towards the end of our forecast period, the PIIGS theme will have such a detrimental effect on the markets as is the case now. Although we have lowered our EUR/USD estimates along the entire curve in general, we still expect that EUR/USD will see a comeback, when investors shift focus to other themes, including the need for a consolidation of the public finances of the US.
Forecast - EUR/USD:

3M:    1.26
6M:    1.24
12M: 1.30

Pound Sterling - GBP 
The pound appreciated nicely against the euro in November, although it is fairer to say that the euro depreciated against the pound. Three factors determined the direction:
1) As expected, EUR/USD (close correlation with EUR/GBP) plunged after the Fed announced the
size of its bond purchases – the market had bought bonds on rumours and now sold bonds on facts – and also the euro-zone debt problems surfaced again.
2) The crisis in Ireland loomed over the euro zone, and the euro paid the price.
3) The economic indicators announced for the UK generally tended to be a tad better than expected in the market.

We assess that the pound may appreciate further against the euro in the short term – mainly as a result of continued euro depreciation. Furthermore, worries about inflation and the improved indicators may lower expectations in the market of further quantitative easing, which will also support the pound. In early 2011 (at 3 months’ term), we believe that the very significant fiscal-policy tightening measures will affect the indicators
and put pressure on the pound. At 6 and 12 months’ term, the pound should appreciate since the economy will basically be out of the recession scenario and because yields are expected to rise earlier in the UK than in the euro zone.
Forecast - EUR/GBP:
3M:    0.87
6M:    0.84
12M: 0.80

The Swiss franc - CHF 
In early November, EUR/CHF approached the top of our previously indicated trading range (120.50-140 EUR/CHF), but the cross rate never breached the top, and instead EUR/CHF headed south – as we foreshadowed in the last edition of FX – Spot On.  In the light of the crisis in Ireland, investors sought alternatives to the euro, which was the main reason for the appreciation of the Swiss franc against the euro in November.

We still expect that the Swiss franc will appreciate. A lid has not been put on the euro crisis yet, war between North and South Korea is still being debated, a currency war remains an open question, China is heading for monetarypolicy tightening, etc.  Generally, there are plenty of likely risk scenarios that may come true, and if they do, it will support appreciation of the Swiss franc. We believe that an early test of the all-time-low of 127.66 EUR/CHF is very likely.
Estimate - EUR/CHF:
3M:    127
6M:    126
12M: 126

The Japanese yen - JPY 
EUR/JPY traded within a relatively narrow range throughout November - between 111-115 EUR/JPY - but ended the month by breaching 110 EUR/JPY. Significant focus on the PIIGS problems and the European debt crisis caused the sharp fall.

Deflation is still causing havoc in Japan, and we expect that the next growth data for the Japanese economy will show a fall. Therefore, it cannot be ruled out that the Bank of Japan will announce further quantitative easing in 2011 to stimulate the economy and push inflation up into positive territory. The intervention policy has been brought to an end due to the latest depreciation of the yen against the dollar, but in the event that the yen heads north, the Bank of Japan will probably be ready to intervene again.

Overall, we maintain our previous targets for the 3, 6, and 12 months’ term. We believe that basically the yen is to depreciate towards the end of our forecast period because of the very sluggish development that we think the Japanese is in for. It may, however, be a while before the fundamentals seriously affect the exchange rate, and therefore we believe that the yen will be largely unchanged in 3 months.
Estimate - EUR/JPY:

3M:    110
6M:    110
12M: 120

The Norwegian krone - NOK 
At the latest monetary-policy meetings, Norges Bank signalled that the interval between the hikes will be longer in  the future, and there are many indications that Norges Bank will not start to raise interest rates until the spring of 2011. Low inflation and not least the strong value of the krone have prompted Norges Bank to slow down.

The krone has in fact appreciated significantly since it bottomed out in late 2008,  and it has tested levels that were seen in the financial markets before the financial crisis really caused havoc in the financial markets and sent the krone reeling. Unless risk aversion again brings investors to their knees, we believe that Norway’s sound public finances with budget surpluses and relatively low debt will support the krone. The hesitant attitude of Norges bank will have the opposite effect, and therefore we believe that the potential of the Norwegian krone is limited over the next 12 months.  We expect that the krone will remain within its current trading range (of approx. 775-820 in EUR/NOK) throughout the forecast period – with a bias towards appreciation of the krone.
Estimate - EUR/NOK:
3M:    8.00
6M:    7.95
12M: 7.90

The Swedish krona  - SEK 
Growth in Sweden is still powering ahead, and the Swedish krona was also supported somewhat after the release of the surprisingly strong Q3 GDP. Despite the strong growth scenario, Riksbanken chose to revise down the interest-rate path at its most recent interest-rate meeting – presumably because the pronounced krone appreciation in recent years is beginning to cause a little concern among Riksbanken's board members.

In our view, the prospects for the Swedish krona are rather steady. Even though, on one hand, increasing risk aversion (e.g. in connection with the European debt crisis) will still be able to put pressure on the krona, we think the economic situation in Sweden with strong growth and sound public finances will, on the other hand,  be supportive.

Moreover, the krona has regained the ground it lost during the financial crisis, and because Riksbanken signals a more modest interest-rate development, the potential of further krone appreciation from the current levels should, after all, be limited.

Therefore we believe that we will see a fairly stable development of the krona and have therefore chosen to revise down our 3-month estimate for EUR/SEK from 9.40 to 9.25. Now our forecast for the Swedish krona looks like this:
Estimate - EUR/SEK:
3M:    9.25
6M:    9.20
12M: 9.15
Full report: Currency In short : In early November, EUR/CHF approached the top  of our previously indicated trading range

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