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In 2017 the FX outlook, we describe our stance on SEK as grudgingly constructive; constructive because the currency was undershooting short-and medium-term fair-value by an egregious amount; grudging because we were wary of the Riks bank’s intolerance of an even more extended undershoot in inflation and the central bank’s likely resistance to a marked and sustained appreciation in the currency. We pitched the 1Y forecast for EURSEK at 9.60 and NZDSEK at 6.0207 levels.
This write up emphasizes shorts in NZDSEK, we recommended this as a longer-term valuation trade, and hence, we opt for a relatively lengthy 6-month option tenor.
The spot FX has since declined by around 3%, mainly from a recovery in the SEK leg.
The valuation argument is consequently less convincing than it was (SEK is fairly valued versus short-term rates); we, nevertheless, still like the trade in part because SEK is highly levered to the lift in the global economy, both through the traditional balance of payments channel, but perhaps more importantly through the impact on Swedish inflation or at least inflation expectations.
After all, no central bank has been more obsessed with low inflation than the Riksbank, to the clear and enduring detriment of the currency.
Swedish consumer prices increased by 1.7 pct from the same month last year in December 2016, following a 1.4 pct rise in November and beating market expectations of a 1.6 pct gain. It was the highest inflation rate since February 2012, mainly due to higher prices of food and non-alcoholic beverages (+1.6 pct from +0.6 pct) and transport (+3.5 pct from +2 pct), a marked improvement from May when this inexplicably slumped to 1.1% and set the Riksbank on the path to extend QE in December, albeit by a token amount and with three hawkish dissents.
While we remain constructive on SEK, progress should be slower from here on in seeing that SEK is now fairly priced to short-term rates and the KIX TWI is modestly overshooting versus the Riksbank's forecasts (by 2%).
Hence, we encourage buying a 6m NZD put/SEK call, strike 6.10 for 1.47%. Spot reference 6.3944. Marked at 1.73%.
