Krone Favorite as 11% Plunge Leaves Norway ‘Hugely Undervalued’

By Bo Nielsen and Oliver Biggadike

July 27 (Bloomberg) -- The Norwegian krone, the third-worst performer against the euro since mid-2008, has become currency strategists’ favorite bet.

Buying kroner versus euros will return more in the next year than all 48 other foreign-exchange trades tracked by global investment banks, according to median predictions in Bloomberg analyst surveys. Norway’s currency will rise 9 percent by June to 8.2 per euro, from 8.8680 on July 24, the median of 19 forecasts shows. The krone is “hugely undervalued” after falling 11 percent since June 30, 2008, Citigroup Inc. said.

“The krone is due for a good bounce,” said Peter Lucas, who helps manage about $199 billion at RBC Wealth Management in Jersey, U.K. “In an environment of rising commodity prices and moderate risk appetite, the krone will be one of the strongest currencies in the world,” probably strengthening to below 8 per euro within “months,” he said.

Forecasters say the currency will gain as Norway’s economic recovery prompts policy makers led by Norges Bank Governor Svein Gjedrem to increase interest rates for the first time since June 2008 to control inflation, boosting returns on krone-denominated investments. The Organization for Economic Co-operation and Development predicts the country’s GDP will shrink less than the euro region this year and gain more in 2010.

After trading at an average of 8 per euro over the previous year and a half, the krone began slumping in mid-2008 as oil and natural gas, which account for 48 percent of Norway’s exports, tumbled in a slowdown that the World Bank says will shrink the global economy 2.9 percent this year.

Oil, Natural Gas

The krone weakened 19.5 percent from June 30, 2008, to its record low on Dec. 26 of 10.1595 per euro as oil and natural gas fell 73 percent and 56 percent, respectively. The currency lost 8.4 percent in December, its worst month since the euro’s 1999 debut, as investors shifted money into the most actively traded securities -- U.S. Treasuries, German bunds and Japanese government bonds.

Policy makers cut interest rates seven times in eight months to a record low 1.25 percent as of June 17 to boost the economy as growth slowed from an annual 5.5 percent in the second quarter of 2008 to 1.5 percent or less in the next three. The reductions weakened the currency by limiting returns on krone deposits.

The krone, which had rebounded 19 percent from its December low to this year’s high on March 24, fell 3.1 percent the next day after the central bank said it may need to cut the benchmark rate to 1 percent. It’s now trading at about the same level and ended last week up 1.6 percent against the euro.

Faster Inflation

Prices in Norway are rising faster than the central bank’s 2.5 percent inflation target, fueled by a 3.4 percent increase in retail sales through May this year, and a 53 percent rise in oil prices since Dec. 31. Inflation unexpectedly accelerated to an annual 3.4 percent in June, the highest in eight months, Statistics Norway said on July 10. Producer prices jumped 8.7 percent from the previous month, the most since December 2002.

Seven of 11 strategists surveyed by Bloomberg see Gjedrem, 59, raising borrowing costs to at least 1.5 percent by the fourth quarter.

Norges Bank plans to keep the rate between 0.75 percent and 1.75 percent until October and it “may then be set higher than currently envisaged” as “a more rapid turnaround or a weaker krone may result in higher-than-projected inflation,” policy makers said after their June 17 meeting.

Market ‘Disappointment’

“The krone has been a disappointment to the market,” said Jeremy Hale, head of macroeconomic strategy in London at Citigroup, which sees the currency strengthening to 8.5 per euro in six to 12 months and 7.52 thereafter. “For the krone to unlock its potential the Norges Bank needs to get cautious about inflation, and we’re seeing some signs of that.”

Higher interest rates may make the krone more attractive than currencies of countries with lower borrowing costs, including the U.S., Canada, the euro zone, Sweden and the U.K., all now at 1 percent or less. Royal Bank of Scotland Group Plc advised buying krone against Britain’s currency on July 14, predicting a gain of as much as 5.6 percent to 9.7699 per pound as Norway’s economy rebounds and the U.K.’s downturn continues.

Norway’s economy will shrink 1 percent this year and grow 0.8 percent next year, while the euro region will contract 4.8 percent in 2009 and have no growth in 2010, according to the OECD. U.S. GDP will fall 2.8 percent this year and then rise 0.9 percent.

The OECD predicted Norway’s jobless rate will be lower than the rest of the Nordic region into next year. Unemployment was 2.7 percent in June, down from this year’s 2.8 percent high in April, said the Oslo-based Labor and Welfare Organization. Unemployment reached 9.5 percent in the euro region during May and the U.S. hit that level in June.

Global Leader

“Fundamentals in Norway remain some of the best globally,” Citigroup’s Hale said.

Bank of America Merrill Lynch figures the krone is 29 percent undervalued versus the U.S. dollar and 35 percent against the euro, citing differences in prices and growth rates in the three economies. Only the ruble was cheaper among the 30 currencies it tracked, the bank said in a July 13 note.

Norway is the world’s fifth-biggest oil exporter and second-largest natural gas shipper and has a growing trade surplus, helping the krone by reducing the country’s dependence on foreign investment.

The current-account surplus will increase to 20.6 percent of the economy next year from 18.2 percent, already the developed world’s biggest relative to GDP, the Paris-based OECD says. The U.S. and the euro region have account deficits of 2.3 percent and 1.1 percent of GDP, the OECD says.

Risk Reversals

Options traders are becoming less bearish on the krone, according to one-month risk reversals comparing prices for contracts to buy and sell the currency. Options to sell krone at a specified price, or puts, cost 1.4975 percentage points more than options to buy, or calls, on July 24, the least at closing since Oct. 21. The gap narrowed from the record high on Dec. 24 of 3.8 points.

Some strategists say other so-called commodity currencies will do better than the krone. They already have outperformed Norway since investors’ began regaining confidence in the global economy in early March.

The krone has appreciated little since then as oil prices soared 48 percent and the Australian dollar appreciated 13.5 percent. The krone dropped 16 percent against the New Zealand dollar, 5 percent versus the Canadian dollar and 2 percent to the ruble, its peers in the Goldman Sachs Group Inc.’s Energy FX basket of currencies that benefit the most from rising fuel prices.

BNP Pessimism

Goldman Sachs predicts oil, which traded at $68.11 on July 24 on the New York Mercantile Exchange, will rise to $82.50 a barrel by the end of 2009 and to $94.70 by Dec. 31, 2010.

BNP Paribas SA, the most pessimistic bank toward the krone in Bloomberg’s survey of first-quarter predictions, sees the currency falling 5.7 percent to 9.4 per euro by the end of March.

“We’re going to see the general deterioration in the economic outlook,” said Ian Stannard, a BNP currency strategist in London who predicts Norges Bank will cut its rate to 1 percent this year. “Most of the market’s expectations are still quite optimistic, and they’re going to prove to be disappointed.”

The country is struggling to emerge from its first recession in two decades after the only global downturn since World War II sapped demand for exports and forced companies to cut jobs, choking domestic demand.

Job Losses

They have fallen 31 percent to 58.9 billion kroner ($9.4 billion) in June since peaking at 84.9 billion kroner in April last year. Companies including Norske Skogindustrier ASA, the world’s second-biggest newsprint maker, have fired staff to reduce costs.

“We would rank Australia first, Norway second, and Canada last,” among currencies of developed, commodity-rich countries, said Jonathan Xiong, who helps oversee $18 billion as a senior money manager at Mellon Capital Management Corp. in San Francisco.

“Europe is obviously in flux, and just being within that particular region could have some effect on the krone,” he said.

Andreas Burhoi, who manages about 800 million euros at Deutsche Bank AG’s DWS investment unit in Frankfurt, said he plans to increase krone holdings to as much as 5 percent of his funds’ total, from 1 percent now.

“Investors will feel more comfortable and send funds to Norway,” Burhoi said. “It’s not that Norway is so great, but that other countries are so much weaker.”

David Bloom, the head of currency strategy at HSBC Holdings Plc in London, is even more bullish: “There’s nothing better than the Norwegian krone,” he said. “It’s safe, man.”

To contact the reporters on this story: Bo Nielsen in Copenhagen at bnielsen4@bloomberg.net; Oliver Biggadike in New York at obiggadike@bloomberg.net