House Bubble Risks Pollute Nordics Amid Investor Haven Hunt

Bond and currency investors in Europe have flocked to Scandinavia to escape the euro area’s debt crisis. They may need to rethink their bets as the risk of asset bubbles threatens to trigger losses in Norway and Sweden.

The notion that the Nordic region is a haven “is really a false perception,” said David Deddouche, a foreign-exchange strategist at Societe Generale SA in Paris, in an interview. “The risk is that at some stage there is a domestic development which pushes every investor out of the market at the same time and it is going to squeeze heavily. It’s quite dangerous.”

The risks aren’t reflected in the countries’ bond or currency markets, which investors are treating as havens from the euro area thanks to fiscal surpluses in Sweden and Norway. Sweden pays less than Germany to borrow for 10 years and Norway’s government bond yields slumped to a record-low last week, approaching parity with the largest euro-area economy.

Yet according to Robert Shiller, the co-creator of the S&P/Case-Shiller home-price index, the two Nordic countries are in the grip of asset bubbles that will damage their economies. He warns that policy makers should do more to protect their credit and property markets from imbalances. In Denmark, where a real estate bubble burst in 2007, home prices may have further to fall, he said.

Policy makers “should start worrying now because when the home prices get so high there’s a problem,” Shiller, who is also an economics professor at Yale University, said in a Jan. 13 interview in Stockholm.

Yields Rise

The yield on Norway’s 10-year bond rose six basis points to 1.88 percent as of 2:56 p.m. in Oslo. The difference between Norway’s 10-year borrowing costs and the yield on similar-maturity German bunds widened three basis points to eight. Sweden’s 10-year yield jumped four basis points to 1.64 percent.

Household debt in Norway will surge to 204 percent of disposable incomes this year, the highest since at least 1988, the central bank estimates. House prices doubled from 2001 to 2010, and jumped an annual 8.5 percent last month, Norway’s Real Estate Brokers Association said on Jan. 2.

In Sweden, the International Monetary Fund said in June homes “appear overvalued with enduring price falls likely,” after values tripled over the past 15 years. House prices dropped 2 percent last quarter from a record, coming off a peak that had been fueled by tax cuts, historically low central bank policy rates and as the economy in 2010 rebounded at the fastest pace in 40 years.

Bernanke, Greenspan

Swedish Housing Minister Stefan Attefall says the boom is probably driven by supply shortages, after two reports commissioned by the central bank found that gains can “largely be explained by what are usually called fundamental factors.”

“That’s what Ben Bernanke and Alan Greenspan did,” said Shiller, who predicted the U.S. housing market crash. “If you’re afraid of being blamed for saying something that alarms people and makes the markets collapse, then you don’t want to say anything that could be wrong. You end up going along with the conventional wisdom.”

U.S. house prices have slumped about 30 percent since a July 2006 peak after the country’s subprime bubble burst, according to the S&P Case/Shiller Index, which tracks 20 major metropolitan areas. Foreclosure rates tripled through 2009. The U.S. unemployment rate swelled as high as 10 percent in late 2009 from an average of 4.6 percent in 2006.

AAA Club

Norway and Sweden, both rated AAA with stable outlooks, are among the world’s safest sovereign credits, default swap contracts show. Norway, which isn’t an EU member, offers the lowest risk and Sweden the third lowest after the U.S., according to bets by credit default swap traders. The club of AAA rated sovereigns grew smaller last week after Standard & Poor’s downgraded nine euro members on Jan. 13, leaving only four in the 17-nation currency bloc with the top rating. The U.S. lost its AAA grade at S&P in August.

“There are some arguments connected to safe havens that are probably in effect these days and that has to do with government finances,” said Kjersti Haugland, a senior economist at DNB ASA in Oslo, in an interview. While it’s fair that fiscal surpluses should bolster the countries’ government bond markets, any imbalances in the economy can disrupt the currency markets very suddenly, she said.

‘Very Illiquid’

“Since the Norwegian krone is such a very illiquid currency it is not a good investment alternative in times of high turbulence,” Haugland said. “We have seen before, around Christmas 2008, we saw it very clearly that the euro/krone exchange rate shot above 10 so it was very dramatic, if they wanted to get out they had to accept a very low price for the Norwegian krone.”

Norway’s krone has gained 2.3 percent against the euro since a Nov. 28 low. It traded at 7.6819 on Jan. 13. Sweden’s krona is up 4.7 percent against the euro in the same period, to trade at 8.8649 at the end of last week. The Swedish currency weakened to more than 11 versus the euro at the height of the crisis in March 2009.

Daily trading in the Norwegian krone averaged $50 billion in April 2010, or 1.3 percent of global turnover, according to a foreign exchange survey from 2010 by the Bank for International Settlements. In Sweden’s krona, the equivalent figure was $83.5 billion, or 2.2 percent of global currency trading.

Sweden, whose government bond market is 550 billion kronor, pays about 17 basis points less than Germany to borrow for 10 years. Norway, where liquidity is much scarcer in the country’s 200 billion-krone government bond market, pays only six basis points more than the largest euro-area economy.

According to Deddouche at Societe Generale, limited liquidity in Norway and Sweden will amplify the fallout of any economic decline as investors all try to leave through the same narrow exit.

“It’s a small market and it makes it a dangerous game,” he said.


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