Sweden continues to show positive signs of growth, in both leading and coincident macro indicators. Building permits continue to rise, and we are seeing increasingly stronger indications of a tightening labour market. Resource utilization leads wage growth historically by 6 quarters ahead, and 20 years of history of this relationship quoted by the Riksbank is something I am not looking to discount too quickly. What's good about the RU indicator from the Riksbank is that it is not highly-revised economic indicator (it's described as a PCA of surveys as well as labour market data), and I think that it's clear that it suggests a trough in wage growth (obviously to be careful of axes and scale).
Although annual gross pay may not be as clean a metric for labour market driven cost pressures, vs just wage growth, the current uptrend in the former I think is worth paying attention to. A Bloomberg article from last week highlights that job vacancies are the highest since 2000 'with no less than 12 of 15 job sectors reporting a labour shortage' in Sweden.
The interesting dynamic at play with the SEK is the pull-tug relationship between the FX and inflation, and thus rates (which courtesy of Nordea, they brought up) where appreciation in the SEK, brings some imported disinflation, causes rates to rally and vice versa, presenting itself as the main argument against being bullish SEK or paid SEK rates.
I have some counterarguments to the view above:
1)Outright inflation still okay: The Nordea chart looks at individual surprises (which I assume is actual vs forecast) and maybe under-reps the fact that inflation outright, has been steadily grinding upwards from 2014 measured by core CPIF inflation at 2.3% latest, from its trough of 0. Although high outright inflation can be considered a late-cycle indicator, I don't think that's the case especially when CPIF has been at 2% only for about 2 months or since July this year, whereas in 07 for example, it stayed around 2% for about 2 more years before levelling off into a contractionary period.
2)FX input to monetary policy perhaps overstated: A Riksbank paper on FX pass-through to inflation shows that an average, a 10% depreciation of the SEK causes annual inflation to increase by 0.5% with a 6 month lag. Of course it may be a simplistic assumption, but if we apply it to the converse, the SEK has not appreciated to such an extent, and as such I think is not as large a headwind to Swedish growth and inflation, especially when the KIX has not overshot the Riksbanks' forecasts and we are at the upper-bound of recent trading ranges in the FX.
3) EUR stretched vs SEK: Given the fact that long EUR positioning at the moment is more extended than long SEK, I think there's value in being long SEK around 9.700-9.800 (EURSEK), especially with its current divergence with the front-end rates spread. If the SEK had rallied much further, then I think the argument about inflation being seriously threatened gets more credence. In addition to this, if you compare [%] change in the EURSEK FX rate compared to a global IP (or even the US ISM Manu PMI), you can see that in global cyclical upswings, the SEK tends to appreciate, and I lean against this as well from a top-down view to be long SEK. A look at the spread of overnight rates shows that its highly rare to see rates in Europe trade over Sweden. This is another asymmetry to lean on.
Vols are trading at historical lows and although EURSEK vols tend to uptick on risk-off periods, perhaps it might be worth looking at owning some puts (6m maybe? I'm far from an option pricer sadly at the moment). Being long FX also is less punitive than being paid SEK rates where for e.g. paying 1y1y is -40 bps of roll-down (I'm discounting proxies of expression fia fwd curves / flies that mimick a rates selloff in SEK). We'll see how it goes in 4-6m time but conservatively target 9.400-9.1000 as long as 9.800-9.900 is held.
Whilst unorthodox to box EUR vs CAD, trade may be a reasonable candidate to take profits for those with EUR steepeners (Trades like reds/greens EONIA steepeners), and take advantage of a potential reversal in the consensus short in the paid front-end, CAD rates trade (BA 2nd-5th contract curve is now the steepest in G10 at 20bp). You can more clearly look at how stretched CAD front-end is pricing in the CB dated OIS, where the next fully priced 25 bp hike for the BoC is in July 2018 whereas for the Fed this is in Nov (a USD vs CAD box is for another argument altogether, but this is just for a metric of 'strecthed-ness'!). I think after the 2nd hike in Sept, people assume too quickly of a regime change. Yes, there are real merits of Canada's improving economy, but to assume they would be on their first few hikes faster than the Fed's first few hikes. ? I doubt that. Some leading indicators have peaked as well, and the BoC has changed their tone to more neutral. On the EUR side, we may also be in a phase where steepening may lose steam with the EUR curve steepest in 2 years in spot 2s5s, with the trade now consensus, and with the ECB being very careful with its tapering communication. With the box at 10y wides, it seems tactically good risk-reward wise, to fade the EUR steepening, and CAD steepening safely.
Roll of the box through time shows 1y fwd point of the box to be best to play the trade.
Trade and what it rolls to in grey
If you look at the outright EUR vs CAD spread, you can see that the box proves a more roll-optimal, and entry-optimal trade compared to the outrights, where if you Rec CAD 2y1y for e.g. vs Pay the same in EUR, you would be incurring -12 bp of roll per annum.
The box is closely related to the front-end spread over the past 2 years (R^2 of 0.78). Over a longer out history it has periods of being disconnected and linked but weaker. So one could argue that it is a reasonable substitute vs front end trade.