2002 is set to be another strong year for the Norwegian krone market and, if the forecasts by the leading houses are to be believed, it will be an even better year for the Swedish krona. Anousha Sakoui talks to bankers and analysts in the region about how these currency trends will drive bond volumes.
Issuance out of the Nordic region as a whole hit a record high in 2001 of Eu5.15bn equivalent compared with Eu3.65bn the previous year. The greatest contributor was the Norwegian krone market, where average pick-ups of around 200bp over euro rates for popular retail names led to 2001 being a standout year for issuance. The total volume almost doubled on a year-on-year basis. If the first three months of 2002 are anything to go by, this year will be just as strong.
And despite a disappointing 2001 for the Swedish krona market, 2002 will see it revived, as increasingly positive sentiment towards Emu membership in Sweden provides investors with attractive opportunities for capital gains.
Norway: another good year
In the first three months of this year the levels of issuance in Norwegian kroner are more than double those of the same period last year. The Norges Bank's unwillingness to cut rates at the same pace as the rest of the western world has left short term rates at around 6% against 3% in Euroland. Pick-ups are steady at 200bp over euros and a positive outlook on the currency is providing momentum in the market.
"The interest rate environment in Norway is much higher than in Europe and this is the primary element that drives this market," says Peter Serlachius, head of debt securities at Handelsbanken Trading. "However, the credits available in this market, on a swaps basis, offer quite poor levels. Whether it's one of the three big autos or a supranational credit, as an investor you would always buy them cheaper in Eurodollars, or Swedish kronor or any currency besides Norwegian kroner."
Serlachius says that the Norwegian krone Eurobond market is buoyant because there is such demand for the currency and alternative assets are so scarce. "There is no mortgage bond market and there is only a very small domestic bond market. The government bond market is also very small, compared with the other Nordic markets. If you want exposure to Norwegian kroner, or you want to invest in a currency that is attractive and in which yields are high, then there are few alternatives."
The interest rate environment in Norway is certainly very attractive for investors, particularly compared with the rates offered in euros or other retail currencies, such as Canadian or Australian dollars, and the market does not expect this to change for the next 12-15 months.
"The Norges Bank was the last central bank of all the industrialised countries to lower interest rates last year," says Klaus Papenbrock, senior economist at Deutsche Bank in Frankfurt. "It did so in December by 50bp bring the rate to 6.5%.
"At its February meeting, however, the Bank abandoned the 'easing bias'," continues Papenbrock, "a policy it had maintained since October 2001, signifying that in Norway the cycle of lowering interest rates has come to an end." However, the Norges Bank is unlikely to have the same sense of urgency to raise rates as the Swedish Riksbank.
"We do not expect to see an increase in rates until the second half of this year at the earliest," he adds. "Over the next 12 months we should not see a much greater hike in interest rates than a restoration of the 50bp cut from December, bringing rates to 7%."
Inflation remains a key issue for the Norwegian economy and the maintenance of its high interest rates. "The bank reduced rates last year because of the global economic cycle and lower imported inflation," says Dennis Van Landeghem, a forex and money market strategist at Fortis Bank. "The bank is concerned about sharp rises in real labour costs, as well as a more rapid global recovery than anticipated. However, inflation forecasts are within the central bank's target and given the already relatively high rates, the possibility for further increases are limited and we do not foresee any changes over the coming year."
"Despite a small jump upwards in December, headline inflation has shown a downward trend since May last year," says Roger Hammersland, an analyst at Handeslbanken Research. "The resilient Norwegian economy makes us believe that the probability of a rate hike is greater than the opposite. Despite this, we expect a narrowing of the spread between long Norwegian and euro area interest rates."
Moreover, Papenbrock adds: "Rates are not expected to increase at the same rate as those set by the ECB over the next 12 months. We foresee a spread narrowing in the short end, making carry trades in Norwegian kroner less interesting than they used to be. This will likely lead to a weakening of the kroner in six to 12 months to around Nkr8.00/Eu." This is, however, unlikely to dampen demand for Norwegian krone denominated debt.
"There has been such a strong momentum in the currency, which has driven the bond market," says Handelsbanken's Serlachius. "If you are positive on the currency and you have a yield rate higher than you can achieve in Europe, it makes your investment decision rather easy."
2002 will, according to many analysts, be a year of strength not only for the bond market, but also for the currency.
"The Norwegian krone has gained significantly against the euro in recent weeks, to around Nkr7.70/Eu, from Nkr8.00/Eu at the end of last year," said Deutsche's Papenbrock. "The reason behind this has been a steady capital inflow attracted by Norway's relatively high short term interest rates. Over the coming months the Norwegian krone should stay close to its current level. On a six to 12 month basis though however, the kroner could weaken to around Nkr8.00/Eu, due to a narrowing in the interest rate differential relative to Euroland and an expected appreciation of the euro."
Fortis's Van Landeghem also highlights the pressure on the currency over the first quarter of the year as multinationals looked to settle their Norwegian accounts by March. "From the beginning of March, we should see an easing of this pressure," he says. "We expect the currency will reach an equilibrium level of Nkr7.90/Eu to Nkr8.00/Eu flat against euros, which compared to last year is an appreciation."
According to analysts at Danske Bank, this trend continues the appreciation of the Norwegian krone over the last two years, and they predict that the currency will reach a new all-time low of Nkr7.70/Eu in six to 12 months' time. "We see a strong potential in the Norwegian krone in 2002," says Alf Inge Riple, a senior analyst at Danske Bank. "We find several factors pointing in the direction of a stronger krone. This comes in addition to the already established record of strong surpluses on the current account and government balances.
"Based on our forecasts for Eu/$, oil price, yield spread and Eu/Skr, we predict a Eu/Nkr rate of Nkr7.60/Eu to Nkr7.70/Eu at the end of the year. Compared with the level in January 2002, this is an appreciation of 3.3% for the Norwegian krone versus the euro."
"There has been quite a lot of issuance in Norwegian kroner, especially over the last year," says Marrku Hakonen, fixed income syndicate, Handelsbanken Trading. "This year hasn't been that easy, but remarkably there still seems to be interest for Nkr400m-Nkr500m deals in the mid-part of the curve, from well recognised names. The Norwegian krone market has a very strong retail bid, and we are putting increasing efforts into tapping this demand.
"I would expect a reasonable year for Norwegian kroner, but Swedish kronor will be more interesting in terms of issuance," he adds. "There is an increasing potential in the currency and greater opportunities for well rated borrowers to use this market to raise funds."
Sweden: let the good times roll
Following a positive shift in voter sentiment towards Emu in Sweden, many of the banks active in the Nordic markets are encouraging investors to take advantage of a convergence play, and the resulting capital gains. "Sweden is definitely one of the most interesting of the Scandinavian markets," said Fortis's Van Landeghem. "There is a lot of potential for an appreciation of the currency and there is still a moderate pick-up against euros. There is the opportunity for investors to make attractive capital gains once Sweden adopts the single currency, which, if you believe the story, should happen in 2005."
Papenbrock at Deutsche forecasts an eventual weakening: "The strong upswing in Swedish voter sentiment toward Emu and the prospect of a referendum on membership in spring 2003 raised by prime minister Göran Persson at the end of last year has led to an appreciation of the Swedish krona from Skr9.50/Eu to up to Skr9.00/Eu early this year," he says. "In the short term we expect Swedish sentiment towards joining Emu to remain positive. However, as we have seen with the Danish experience, sentiment can shift and in such a case we would expect a weakening in the krona."
Papenbrock is confident that Sweden will join Emu. "The Swedish krona has the potential to strengthen from its current Skr9.10/Eu level, where it is still undervalued, to Skr8.50-8.70/Eu over the next 12 months. The recent interest rate hike by the Riksbank will have additional strengthening affect," he says.
In the bond market, spreads against Bunds have been stable at around 40bp, but due to a healthy budget compared to Sweden's Euroland neighbours, Papenbrock also expects a tightening in yield spread over the next 12 months of 10bp-15bp. Another factor would be a government sanctioned time plan for Sweden joining Emu, as well as the expected positive outcome from an Emu referendum.
The Riksbank recently raised the repo rate by 25bp to 4% to help combat inflation, which is running above the bank's 2% target. The move made it the first major central bank to tighten monetary policy since the end of 2000. The governor of the central bank, Urban Backstrom, said that Swedish inflation was likely to taper off over the next few months but that it is expected to rise again after the summer owing to strained resource utilisation connected with stronger economic activity. He added that further increases could be in the pipeline.
The rate change was expected and had no effect on the currency, but bond yields rose to a two year high. But such action is unlikely to be the beginning of an aggressive tightening cycle. The market expects that the Riksbank is unlikely to do more than reverse its 50bp cut of September 2001.
While the arguments for a convergence play in Swedish kronor are convincing, on the road to Emu lie many obstacles. Parliamentary elections are due to take place on September 15 and no firm decision on a referendum can be made until then.
"The convergence play is being gently priced into the market," says Fortis's Van Landeghem. "Sweden has a lot of hurdles before it can join Emu. If you look at the experience in Denmark, there were also favourable polls, but when it came to referendum opinion was reversed."
Analysts at Danske Bank warn not to be over-optimistic about the currency in the first half of 2002. "We expect the krona to strengthen on a three to six month horizon, but it should be some time before we see a sustainable break of Skr9.00/Eu," said Elisabeth Andreew, a research analyst at Danske Bank. "Primarily because we see a risk of further corrections in the stock markets. The Emu question is not likely to become a main issue until we get closer to the September elections.
"We expect Göran Persson will stay on as prime minister and that he will call a referendum in April 2003," Andreew adds. "Backed by a pick-up in the economy and stock markets, we believe the krona should strengthen quickly to Skr8.80/Eu soon after the announcement of the referendum date and range around this level. We believe the target for Eu/Skr entry level lies between Skr8.50/Eu and Skr8.90/Eu." Another positive for the krona will be pressure on the euro versus the dollar as the US runs ahead of Euroland on the road to recovery.
These fair value calculations of the krona have been well publicised and should draw retail investors into the Swedish krona market, but bankers are also considering how to attract more institutional investors.
"It is difficult in Swedish kronor for issuers to get the same kind of opportunistic levels as in the Norwegian krone market," says Handelsbanken's Peter Serlachius. "The Swedish market is so much larger. Yields are quite attractive and in a certain way we might see the same play in Swedish kronor as we have seen in Norwegian kroner. However, we will probably see somewhat different issues because in Swedish kronor the possibility of doing larger deals is greater than in Norwegian kroner, where the maximum is around Nkr750m."
"Last year we led a Skr3bn offering for Nordic Investment Bank off their EMTN programme," adds Handelsbanken's Hakonen. "It was placed from the Far East to the Middle East to Europe. I don't think you could have done a similar sized issue in Norwegian kroner."
Hakonen believes that it is possible to launch a Skr6bn issue for a company that has a natural funding need for the currency. "Stora Enso, rated Baa1/BBB+, is an example of a good name that could do successful transactions in this market and even if the target is to raise Eu500m-Eu600m equivalent you can do it in Swedish kronor. It saves on any swapping problems you would have if you were financing your Swedish operations or an acquisition.
"There are quite a lot of institutional investors that have exposure to the Nordic currencies," he adds. "There is no reason why this exposure should only be in the form of government bonds or mortgages."
As for the size of the government bond markets in either Norway, Sweden or Denmark, issuance is expected to remain steady, as each country enjoys a healthy fiscal situation. It is likely that Sweden will want to follow in the steps of Finland, Portugal and Spain and introduce its name to the market with a syndicated issue before 2005.
"The Swedish prime minister has been talking of a referendum on Emu membership taking place in 2003, and subsequent entry to Emu in 2005-2006," says Handelsbanken's Serlachius. "I believe we could see the Kingdom of Sweden issuing a syndicated deal in the near future."
Denmark: targeting stability
Since 1997 the Danish kroner market has fallen dramatically in size. This year will not be any different, with no potential evolution in the currency and an unattractive pick-up against euros. "Denmark has been very successful in maintaining a stable exchange rate of Dkr7.46/Eu, despite recently reaching a two year high of Dkr7.43/Eu," says Deutsche's Papenbrock. "A stable exchange rate is the target of the Danish government and is achievable, at least in the short term. In the bond market we expect the spread to 10 year Bunds to stay at around 25bp, ie similar to that at the short end."
"This is a market that has not been active for the last couple of years," says Handelsbanken's Hakonen. "There is a large government bond market and a big mortgage market, so for issuers there are alternatives to launching Danish krone denominated Eurobonds. It is not possible either for them to do opportunistic trades. They can get better levels of funding, and liquidity, in other markets. Investors are more likely to buy into mortgages or government bonds." *