ECB and Periphery, SEK/NOK and G10 FX


President Draghi playing down an imminent need for QE tapering should weigh on EUR/USD, but downside should be modest due in part to the EUR/USD undervaluation. Given the limited spillover effects into Norges Bank’s monetary policy stance and more direct implications for Riksbank, a dovish tone during the ECB press conference should lead to higher NOK/SEK. The ECB is to wait until the December meeting with the potential extension of the QE programme (beyond 1Q17) and changes to its technical modalities (such as increasing an issuer limit for non CAC bonds and/or dropping the deposit floor limit). Rather, the focus is on President Draghi’s press conference and hints at potential further easing/playing down an imminent need for QE tapering. The latter in particular may modestly push German 10-year bund yields lower following the tapering speculation earlier this month.

While strong suppression of an imminent probability of tapering is likely to weigh on EUR/USD, the downside to the cross is likely to be limited given: (1) EUR/USD already trades modestly below its short-term financial fair value; (2) the potential decline in longer dated bund yields is unlikely to occur in isolation and is likely to drag UST longer dated yields lower, albeit at a slower pace. In the G10 European FX space, we expect EUR to be the most vulnerable against NOK in response to the ECB playing down the need for imminent tapering/hinting at QE extension. Given the still above target Norwegian inflation and the recent rise in oil prices, Norges Bank’s monetary stance should be largely immune from that of the ECB. By contrast, SEK should be the most vulnerable European currency as potential hints at QE extension/no imminent tapering should increase the probability of Riksbank’s own QE extension beyond this year (particularly following the recent disappointing Swedish CPI).

As a reminder, the QE extension beyond 1Q17 has always been our base case and is fully compatible with our constructive EUR/USD medium-term view. This is because: (1) QE extension (but not an incremental increase in monthly purchases) should not have a pro-longed negative impact on EUR/USD; and (2) it would take a large incremental QE increase of monthly purchases to actively push EUR down – but this is unlikely given the current technical constraints; (3) the extension of QE beyond 1Q17 by two or three quarters is not incompatible with the forward looking market pricing the end of QE/the start of tapering during the course of next year.