Fundamental predisposition
In FX Top Trades 6 How to position for the coming year 2018 , 6 December 2017, we argued that 2018 would be a good year for the NOK and recommended utilising year-end weakness and investors misunderstanding of the Norwegian housing market to buy NOK. However, since the March Norges Bank (NB) meeting, we have been side-lined in EUR/NOK, arguing that the cross should be played tactically within the 9.47-9.75 range.
Meanwhile, with this mornings inflation print details being much better than suggested by the headline and with our bullish call for tomorrows Regional Network Survey, we think NB next week will confirm an interest rate hike in September which in our view is not fully priced. In other words, we think we are now approaching an important fundamental trigger for the next leg lower in EUR/NOK leading to a break of the latest range (Chart 1).
Over the past months, we have continually emphasised the NOK headwinds preventing EUR/NOK from breaking lower. Admittedly, several of those headwinds are still present in the likes of not least weaker global growth, a stronger USD and structural NOK liquidity set to improve in coming weeks. On the other hand, positioning is now much more balanced, the housing market is increasingly becoming an upside risk for NB and the downside risk to oil prices seem diminished following recent OPEC comments. Also, we think implied EUR/NOK volatility is likely to move lower again in July, meaning the latest volatility rise creates an attractive range in a 3M bearish seagull where we lower our near-term delta but buy exposure against a sustained spot move lower. Also, historically, it has been profitable to roll the EUR/NOK vol. curve during the summer months (Chart 3).
In summary, from a risk-reward perspective, we like entering a strategic trade on an eventual lower EUR/NOK as NB initiating a moderate hiking cycle, in our view, would constitute a fundamental trigger for EUR/NOK moving closer to its long-term equilibrium, which our PPP model has at 8.52 (Chart 2).We recommend entering a 3M EUR/NOK bearish ratioed 1:1:2 at-the-money spot seagull, zero cost (indicative prices).
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