World’s Riskiest AAA Currency Exposed as Brexit Divides Markets

Norway.

A currency that became a safe haven in 2012 is now being traded almost as an emerging market. That’s despite boasting three AAA ratings, the world’s biggest sovereign wealth fund and a sizable current account surplus.

When the U.K. shocked the world by voting to exit the European Union, investors piled into markets they deemed safe, like the yen, the franc and Denmark’s krone, and promptly dumped assets they thought were risky, like the pound, the zloty and Norway’s krone.

Gaute Langeland, chief analyst at Nordea Bank in Oslo, says the krone was grouped in with currencies that succumbed to risk aversion after Brexit. Despite its AAA halo, the krone is ultimately a “small, periphery currency,” he said.

Having a small currency also means having a small economy and a monetary policy that is at the mercy of larger global economic currents. The turmoil radiating from the U.K. threatens Europe’s economic health and could force Norwegian policy makers to join their colleagues across Scandinavia in cutting interest rates to zero (Danish and Swedish rates are already well below zero).

In an ill-timed meeting, the Norwegian central bank on the day of the Brexit vote announced it was keeping its benchmark rate at 0.5 percent. It also signaled it was becoming more upbeat on the economy amid a recovery in oil prices. The bank said there was still the possibility it may cut rates one more time this year. And then the referendum results became known.

Now, Danske Bank and Svenska Handelsbanken expect Governor Oeystein Olsen will probably need to lower rates twice, hitting zero by the end of the year, to cope with the fallout of Brexit as Norway’s export markets get pummeled.

DNB, Norway’s largest bank, says the central bank will have to walk back some of its new-found optimism, cut rates once more and lower its rate forecast to keep up with stimulus abroad.

The krone’s decline reflects the new reality. Though coveted in 2012, when investors focused on credit worthiness, Norway’s currency is unpopular when liquidity is in demand, said Erica Blomgren, chief strategist at SEB. In 2012, the krone was “an alternative safe haven,” she said. Now, it’s all about “the implications for growth expectations and risk sentiment.”

There are 10 countries left in the world with AAA ratings at Moody’s, S&P and Fitch. The U.K. only carries a AAA rating at Moody’s. One-month implied volatility shows that Norway has the riskiest currency in the group, which includes Sweden, Denmark, Switzerland, Germany, Australia, Singapore and Canada. Euro members Luxembourg and the Netherlands also carry top credit grades.

Predictions of more rate cuts are in turn playing out in the currency market. Nils Kristian Knudsen, a currency strategist at Handelsbanken, said there’s considerable “downside risk” to the krone because of interest rate levels and oil price volatility.

“Market risk is high,” he said. “Investors will be hesitant to buy the krone.”

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