NOK EUR total return long term
23.03.20
Insights

Long term investing in the Norwegian Krone – Better than most think?

Dag A.D. Messelt, CEFA

The Norwegian Krone (NOK) is having a difficult period in the markets. It is simply being hammered as a result of the corona (Covid-19) crisis and the oil price war ongoing. Throughout the last years many investors gave up the currency, as they did not manage to understand the weakness, despite the AAA rating by all agencies, the higher growth and the higher and higher central bank rates. And from a chart it looked to be an ever-losing strategy seen from a Euro (EUR) based investor’s point of view. But has it really been a losing position?

The falling NOK to the EUR – Is this the full picture?

FIGURE 1 – The weakening NOK to the EUR

FIGURE 1 - Long term investing in NOK - Nominal performance

Source: Bloomberg and Alfred Berg per 13/3/2020. Historical performance is not an indicator of future performance.

As can be seen in FIGURE 1, a EUR based investor that bought NOK at the end of 1998 looks to have lost around 30% on the NOK position. The fall looks particularly strong since the top during the fall of 2012 when the European Central Bank (ECB) started their Outright Monetary Transactions (OMT).

But this is not the full picture!

Interest rate differential – The higher returns in NOK

When you buy exposure to the currency, you can either do it with Forwards or by buying cash assets in the currency, like for instance short term bonds with very low risk. You must also consider what you do not buy in your own currency (here EUR). To make it simple in the following, I presume that investing in NOK will give you the 3 month NOK interbank rate and that you will be paying the 3 month EUR interbank rate for the investments you will not do at home for the same money (alternative cost).
In reality, you may choose to invest in more risky assets, but if you have the same risk pricing in the two currencies, the differential will still be more or less the same as the 3 month interbank differential.

So, does this really matter compared to the around 30% loss on the NOK to the EUR over all these years?

Oh yes it does!

FIGURE 2 – The higher returns in NOK compared to returns in EUR

FIGURE 2 - Long term investing in NOK - Cumulated interest differential

Source: Bloomberg and Alfred Berg per 13/3/2020. Historical performance is not an indicator of future performance.

As can be seen in the FIGURE 2 here above, the cumulative higher returns in NOK is amounting to close to 40%. The lighter grey line shows you the annualised interest rate differential level on a quarterly basis.
So, on one side the long position in NOK for a EUR based investor, has two sides, one is the very visible loss on the NOK position when considering a simple EURNOK chart (see FIGURE 1) and the other is the cumulated higher coupons that the NOK has been offering for the most of this period (see FIGURE 2).
Then the question is, what return has this given in total?

The total return of a NOK position for a EUR based investor

Adding up the EURNOK performance and the interest rate differential, we get to the total return.

FIGURE 3 – The total return of a long NOK position for a EUR based investor

FIGURE 3 - Long term investing in NOK - Total performance

Source: Bloomberg and Alfred Berg per 13/3/2020. Historical performance is not an indicator of future performance.

As can be seen in FIGURE 3, what seems to be a loss of around 30% in the period is actually a loss of around 4%. At the end of 2019, before the very recent fall in the NOK due to the Corona (Covid-19) and oil price war crisis, you were actually in a gaining position of around 10%. Sure not much for 22 years, but this a simulated risk free environment and relative to the EUR exposure.
As is evident from FIGURE 3, the point of entry is important for the returns a EUR based investor have on the NOK exposure.

NOK going forward?

This is the hard nut that I will not answer to here, simply because I do not know.
I will only note that Norway is AAA rated by all agencies, has a massive pension fund of around 1000bn EUR for 5 million people and it is a knowledge economy. These are strong supports for the future.

I think Norway will handle the transition from Fossil fuel producer into a sustainable economy well. But for sure, this scenario relies on solutions and technologies that we do not have fully or efficient enough today. What could they be? Offshore wind farms and electricity exports? CO2 storage under the sea bed? Nordic Innovation is on the top of European innovation, and I trust it will also bring value in the future!

In addition to the above, as long as inflation is higher in Norway, the expected risk free returns would also be expected to be higher. And as seen here the historic difference has been important versus the EUR.

It should be noted that the NOK has continued to weaken to the EUR since the data prepared for this article. If this is a liquidity driven Corona (Covid19) crisis pricing of the NOK, this could be a historic opportunity?

 

Other recent articles about the Norwegian Krone (NOK):

On the same subject:

Interview with our Nordic Fixed Income managers – Corona (Covid19) crisis impacts – 16/3/2020

We have very special Nordics fixed income markets now, like elsewhere in the world. There are 3 things concurring that hits the market very hard. Firstly, the Corona virus and the political reaction with severe effects on the global economy. This is extreme for the economy in the short term. The big x-factor is how long this «lock down» will last. Secondly, the oil price has plummeted and this has impact on global markets and particularly parts of the Norwegian economy. Thirdly, all of this is bringing a liquidity crisis in the global fixed income markets.

Nordic Corona (Covid-19) status and what is Nordic specific

The Corona virus is present in the Nordics as elsewhere. It is worth to notice that Norway stands out with a high number of persons being contaminated, but this is due to very large testing program of the population with over 8 000 per million.

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Investments in funds are always related to risk. Past performance is no guarantee of future results. Performances are calculated net of fees. Investments in funds are subject to market fluctuation and risks inherent in investing in securities. The value of investments and the revenue they generate can increase or decrease and it is possible that investors will not recover their initial investment.