How does a positive surprise look like for NOK?

It has been a while since anything close to good news came for NOK. Oil prices have been declining steadily since august 2014 and Norges Bank's forecast for the economy has been revised down in the 12 last editions of the Monetary Report. Looking at the NOK sentiment, good news would certainly be surprising.

"We never seen this high consensus estimates for EURNOK. We have never seen NOK this weak on a trade weighted basis, compared to history it is arguably the weakest currency in the world measured by real effective exchange rates. The market is flooded with oil, but there is also ample supply of negative views on the oil price development", commented Nordea Bank in its research note.

Shale oil has proven more resilient than expected, particularly cost cuts from technological improvements have surprised. However, around 35 USD/bbl most projects are unprofitable and the rig count has been falling sharply lately. When the shale producers now run out of hedges, which for some were running as high as 90 USD/bbl, more production cuts should be on the horizon. An unexpectedly sharp drop in US production should come as a surprise.

The most effective surprise from the supply side would of course be a production cut from OPEC, but right now that seems farfetched. At the demand side one could of course continue to see high growth in demand from the transportation sector, but experiencing the same response to low prices as it was seen in last year seems unlikely. A bigger unknown is China's stimulus programs. So far they have not been large, but in fear of a hard landing, it would make sense for the government to increase spending on investments and thereby increasing the demand for commodities.

If oil prices stop falling, the next topic is the size of the consequences for the Norwegian economy. So far the Norwegian economy is doing fine; employment is rising, unemployment is only rising in oil related areas, real estate prices are rising and consumption is holding up pretty well. There is next to no doubt that this picture will be bleaker during 2016.

EURNOK could move sideways and perhaps even lower going into the last rate cut, but one could perhaps say that it seems like the trend becomes quite clear afterwards. This was certainly the case for 2009 when the central bank cut for the last time at the same meeting as they made its first upward revision to the output gap.

"We think we will see the bottom in the oil price in the first quarter and the last rate cut in second half. This is also why we see EURNOK down towards 9.20 short term, before the larger trend for the downside starts when the market realizes that Norges Bank is done cutting in second half of the year. From today's elevated levels it then makes sense positioning for the downside in EURNOK, but knowing that timing is quite crucial in this matter we would favour options with limited risk in case of large unexpected spikes", added Nordea Bank.