Euro-Peg Fight Back Where It Started as ECB Props Up Danish Debt

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A month after Denmark’s government declared victory over speculators betting its euro peg would fail, capital is flooding back into the country’s AAA debt market.

The European Central Bank’s pledge to step up asset purchases is having serious repercussions further North. The krone hit a 10-week high against the depreciating euro on Tuesday. Meanwhile, Danish bond yields have fallen faster than their euro-zone equivalents as Greece’s plight revives demand for the safest assets.

The developments “have sent the Danish central bank back to square one,” said Arne Lohmann Rasmussen, head of fixed-income research at Danske Bank A/S.

He notes that the difference between Danish and German yields is about where it was on Jan. 15, the day Switzerland’s decision to send its currency into a free float prompted speculation Denmark might be next. The development has forced economists to drop forecasts that the bank may raise its main rate from minus 0.75 percent any time soon or resume government bond auctions, which have been suspended since January.

“ECB front-loading its QE program reversed the trend in German government bonds, and that’s adding pressure on the Danish central bank,” Rasmussen said. “Danish assets are now basically priced with the same spread to Germany as they were when speculation against the krone began.”

Krone Strength

The Danish 10-year benchmark bond yielded about 0.7 percent at the end of last week, 16 basis points more than similar-maturity German debt. Two weeks earlier, that spread was 26 basis points.

The krone traded at 7.4524 per euro last week, its strongest since the middle of March. Central bank Governor Lars Rohde’s job is to target 7.46038 kroner per euro inside a 2.25 percent band. In practice, the bank only tolerates swings up to

0.5 percent.

Forward rates also indicate there’s more appetite for kroner. The 12-month contract traded at about 7.433 at the end of last week, or about 0.4 percent stronger than the spot price.

The central bank received a small helping hand last week when the government cut its domestic financing need for 2015 by 10 billion kroner ($1.5 billion). According to Jan Stoerup Nielsen, an analyst at Nordea Bank AB, that means the government can hold out a bit longer before resuming bond sales.

For more, read this QuickTake: Currency Pegs

“The krone has strengthened recently and if the development continues, it could mean that it will take longer before bond auctions return,” Nielsen said. “I’m sure that the central bank doesn’t want to start issuing bonds again at a time when the krone is very strong.”