Europe’s high-yield currencies dethroned by ECB inflation fight

BLOOMBERG

Norway and Sweden are no longer the place to go for currency investors hunting richer returns in Europe.
The Nordic nations’ comparatively high interest rates and slow inflation made them a carry-trade favourite in quiet times when demand for riskier wagers was strong. Investors borrowed in low-rate currencies like the euro and Swiss franc and used the money to buy the Norwegian krone and the Swedish krona.
But stubborn inflation means the European Central Bank’s (ECB’s) interest rates are poised to match, or even overtake, Nordic ones for only the second time in the history of the common currency — and the krone and krona are losing their luster.
Norway’s currency has been the worst performer among G-10 peers so far this year. Sweden’s is trading near its lowest level on record. Their moves haven’t been aligned with a key volatility gauge since the end of 2022, underscoring how the currencies no longer benefit when risk appetite is high.
Other than jawboning the currencies stronger, there’s little central bankers in Oslo and Stockholm can do without hurting their economies. In Sweden they’re stymied by one of the worst housing crises on the continent, and the risk that aggressive rate hikes would tip its economy into recession as mortgages are pushed out of the reach of millions of households.
“There is certainly a risk both currencies continue to soften given the yield advantage has depleted,” said Dominic Bunning, head of European currency research at HSBC. “If the ECB’s hawkishness outlasts or overpowers that of the Riksbank or Norges Bank it will make it harder for the krone and krona to recover.”
Even if the Swedish central bank raises rates by half a percentage point as estimated for its meeting— then hikes by a final quarter point to 3.75% — it will have merely matched the peak level predicted for the ECB. Markets are pricing the possibility of a similar terminal rate for the Norges Bank.
The picture is grimmer with inflation factored in. While the official rates converge, real interest rates are negative 3.5% in Norway and negative 7.6% in Sweden, data compiled by Bloomberg show. That puts them below the euro area’s negative 3.4%.
The narrowing rates gap, combined with a weak economic outlook, means both currencies could drop to about 12 per euro this year, strategists at Nomura Holdings Inc say.
Iain Cunningham, portfolio manager at Ninety One UK Limited says Sweden is “particularly vulnerable” and is positioned against the krona in favour of the Swiss franc.
Both the Riskbank and the Norges Bank have spoken out against currency weakness. The Swedish central bank vowed to thwart traders betting against the krona in its last policy review in February, while the Norges Bank blamed the krone’s fall to a two-year low as a reason for hiking rates further, according to its statement.