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Nomura Greek Exit Scenario Analysis

Nomura Greek Exit Scenario Analysis

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Nomura |G10 FX Insights17 May 2012
Nomura Securities International Inc.
See Disclosure Appendix A-1 for the Analyst Certification and Other Important Disclosures
 
G10 FX Insights
FX Research & Strategy | G10
 
FX Forecast Revision & Greek ExitScenario Analysis
17 MAY 2012
The past two months have seen a return of deleveraging, driven by renewed tension in Europe. This has already impacted on risky currencies and we are updating our forecast to incorporate this, with implications mainly for EM and commodity currencies.In addition, the risk of a Greek exit from eurozone is rapidly rising. We have yet to fully incorporate an exit in our central case scenario, given remaining uncertainty about the election outcome in Greece. However we present a preliminary scenario study of expected FX movement in such a scenario.
Revisions on commodity and EM currencies to our central scenario
We keep our central case forecast for G3 currencies unchanged (Figure 1). EURshould depreciate against USD even if European policy makers avoid an exit ofGreece. Weaker macroeconomic outlook due to tight fiscal policy, together withcontinued structural capital flow weakness, is expected to lead to a gradual decline ofEUR. In fact, our economists now see a higher potential for rate cuts by the ECB(see 
,17 May 2012). Inour central case, we expect USDJPY to rise toward 85 as improvement in the globaleconomic outlook should weaken safe-haven demand for JPY and encourageJapanese investors to take more foreign exchange risks.Meanwhile, we have revised down commodity currencies in G10 space. Recentrenewed concerns over Europe led deleveraging and in response to this, centralbanks became more accommodative. Most notably, RBA resumed cutting policyrates in May and we forecast more cuts to come from RBA. We also downgraded ourforecasts for EM currencies.
Fig. 1: Revised forecast (not incorporateing Greek exit)
Source: Nomura
16-MayQ2 12Q3 12Q4 12Q1 13End 2013
 
G10
Japanese yen (USD/JPY) 80.3 80.0 83.0 85.0 86.0 90.0(EUR/JPY) 102.2 102.0 104.0 105.0 105.0 108.0Euro (EUR) 1.27 1.28 1.25 1.23 1.22 1.20Swiss Franc (CHF) 0.94 0.94 0.96 0.98 0.98 1.00 (EUR/CHF)1.20 1.20 1.20 1.20 1.20 1.20British Pound (GBP) 1.59 1.60 1.58 1.58 1.58 1.58(EUR/GBP) 0.80 0.80 0.79 0.78 0.77 0.76Australian Dollar (AUD) 0.99 0.99 1.01 1.01 1.02 1.02Canadian Dollar (CAD) 1.01 1.01 1.00 0.98 0.97 0.95New Zealand Dollar (NZD) 0.76 0.78 0.80 0.82 0.84 0.86Norwegian Krone (EUR/NOK) 7.60 7.60 7.50 7.40 7.40 7.40Swedish Krona (EUR/SEK) 9.12 9.10 8.90 8.80 8.78 8.70
EM
Brazilian Real (BRL) 2.00 1.96 1.91 1.86 1.82 1.74Mexican Peso (MXN) 13.77 13.60 13.40 12.80 12.60 12.00Turkish Lira (TRY) 1.83 1.83 1.77 1.72 1.69 1.65S.Africa Rand (ZAR) 8.32 8.40 8.00 7.80 7.70 7.50
 
 Nomura | G10 FX Insights 17 May 2012 
2
Scenario analysis: expected FX movement if Greece exits
Current political dynamics in Greece suggest that a new Greek government will haveto rely on participation from left-wing parties, which are calling for a renegotiation of
Greece‟s agreement with the Troika. A breakdown of such a negotiation would likely
lead to a cut-off in external funding. This would effectively imply currency separationand transition towards a new national currency in Greece (see 
,14 May 2012).Against this background, we examined the expected path of major currencies ifGreece eventually exits from EUR after the second round elections (Figure 2,preliminary scenario analysis and not our central scenario). USD and JPY are likelyto benefit from severe market tensions after a Greek exit. Moreover, depreciation ofthe EUR will likely accelerate. We expect EURUSD to decline to 1.15 and EURJPY toreach 90 in H2 2012. The momentum of the rise in USDJPY accelerated in Q1 willlikely run out of steam further and downside risk should re-emerge.Depreciation in commodity currencies is expected to gather further momentum in thisscenario. Under this risk scenario, AUD is no longer expected to regain parity againstUSD this year. Rooms for further downside move should increase for othercommodity currencies as well. The USDCAD is expected to peak at 1.05 in Q3 andNZDUSD will likely depreciate to 0.72 in Q2. Among European currencies, we expectGBP will stronger in this scenario, while depreciation of NOK and SEK against EURwill become more pronounced, at least temporarily.EM currencies should weaken further as risk-off environment extends and deepensfurther. Under this risk scenario, USDBRL should trade above 2.00 throughout thisyear.
Fig. 2: Scenario analysis (in the case of Greek exit)
Source: Nomura
We summarized detailed view on major currencies under both our central casescenario and Greek exit scenario below.
EUR: Greek exit sends EURUSD to 1.15
Our central case for the euro has been one of gradual decline for some time and wekeep this forecast as a central scenario for now. Specifically, our target for EURUSDin Q3 has been 1.25 and thus, we still see downside risks from current level even ifGreek avoids the exit from eurozone (see 
, 23 April 2012).However, assuming a Greek exit happens in Q3, the right target for EURUSD maynot be 1.25, but rather something in the around 1.15. The basic premise behind ourview is that a Greek exit would lead to further instability in the eurozone bankingsystem, a further rise in risk premia on eurozone assets, and additional deterioration
16-MayQ2 12Q3 12Q4 12Q1 13End 2013
 
G10
Japanese yen (USD/JPY) 80.3 78.5 78.5 78.5 80.0 85.0(EUR/JPY) 102.2 94.0 90.0 90.0 92.0 98.0Euro (EUR) 1.27 1.20 1.15 1.15 1.15 1.15Swiss Franc (CHF) 0.94 1.00 1.04 1.04 1.04 1.04 (EUR/CHF)1.20 1.20 1.20 1.20 1.20 1.20British Pound (GBP) 1.591.50 1.51 1.53 1.53 1.53(EUR/GBP) 0.80 0.80 0.76 0.75 0.75 0.75Australian Dollar (AUD) 0.99 0.92 0.91 0.93 0.95 1.00Canadian Dollar (CAD) 1.01 1.02 1.05 1.03 1.01 0.95New Zealand Dollar (NZD) 0.76 0.72 0.73 0.76 0.78 0.84Norwegian Krone (EUR/NOK) 7.60 7.80 7.70 7.70 7.60 7.40Swedish Krona (EUR/SEK) 9.12 9.40 9.30 9.30 9.20 9.00
EM
Brazilian Real (BRL) 2.00 2.08 2.20 2.18 2.15 1.95Mexican Peso (MXN) 13.77 14.00 14.40 14.30 14.20 13.50Turkish Lira (TRY) 1.83 1.85 1.90 1.88 1.84 1.75S.Africa Rand (ZAR) 8.32 8.45 8.75 8.50 8.25 7.75
 
 Nomura | G10 FX Insights 17 May 2012 
3
in external capital flows (see 
,16 May 2012).Such a scenario would also have implications for the relative performance of riskassets, including risk-sensitive currencies. We would expect USD and JPY to be theoutperformers in that case, while the outlook for more risk-sensitive currencies ismuch more uncertain, even for countries with superior fundamentals relative to theeurozone.
JPY: benefit from Greek exit
We maintain the view that USDJPY rises gradually toward 85 by end-2012. Thesurge toward 84.18 in Q1 was mainly led by speculative investment in our view andthus, USDJPY slipped back to 80 now. However, Japan oriented flow is also pointingout higher possibility of gradual rise of USDJPY. Most notably, we expect the tradebalance to remain in deficit for the time being, even though current account deficit isunlikely anytime soon (see 
,7 February 2012). In addition, improvement in the global economic outlookshould weaken safe-haven demand for JPY and encourage Japanese investors totake more foreign exchange risks (see 
, 8 March 2012). In fact, toshins were net buyers of foreign securities in April for thefirst time since last August (see 
“JPY Flow Monitor: Toshin and Lifers both purchasedforeign securities in April”,10 May 2012). Lifers‟ foreign investment also accelerated
in April.Nonetheless, recent renewed concerns on the eurozone debt problems posedownside risks to the scenario. We expect USDJPY to decline to 78.5 if Greek exitsfrom eurozone. A Greek exit should re-accelerate safe haven foreign inflow intoJapanese T-bills, putting downside pressures on yen-crosses. Global financial turmoilshould also discourage Japanese investment in foreign securities. An economicslowdown associated with chaos after Greek exit may potentially lead to lower oilprices, which should improve Japanese trade balances. The
Fed‟s exit strategy
should also delay . Against these headwinds, Japanese authorities, MOF and BOJ,may be forced to take policy responses, including FX intervention. We currently see78 as the important USDJPY level for the government to protect.
Other G10 currencies: QE benefits high-beta currencies after adjustment
AUD is expected to trade at or just above parity for most of the year (1.01 by end-2012) as a structural trade surplus justifies AUD trading at historically high levels.While we expect further rates cuts form the RBA, this is largely priced in by marketsand so should have limited negative impact for AUD. NZD is more attractive in ourview. New Zealand should see further capital inflows from foreigners buyinggovernment bonds and related to earthquake reinsurance. We expect NZDappreciation, to 0.82 by year-end, and so we remain structurally bearish AUD/NZD,which we see grinding towards 1.20 in the next year. In the case of a Greek exit, wewould expect market turbulence to hurt both AUD and NZD as high-beta currencies,with AUD expected to sell off to 0.91 and NZD likely to fall to 0.73 in H2 this year.Assuming ECB steps in with QE, we would expect to see sharp drops in the euro vs.
the antipodeans (e.g. EUR/AUD at around 1.20 in a year‟s time) as QE puts pressure
on the euro and increases market risk sentiment, benefiting high-beta currencies.Strong fiscal and external positions and robust banking sectors should continue toattract investors to the Scandinavian countries. Moreover, in the case of no Greekexit a global economic recovery (albeit slow) should find these economies in a goodposition to gain from increased exports and improved sentiment and hence weforecast a grind lower in both EUR/SEK and EUR/NOK, to 8.80 and 7.40,respectively, for end-2012. We see NOK/SEK at around the current level, the
strongest in two years, as Norway‟s economy remains stronger, much thanks to a
strong robust domestic
sector. At the same time, one factor capping NOK‟s
appreciation is Norges Bank stepping up the pace of the FX purchases (NOK selling)on behalf of the sovereign pension fund due to higher oil income. In the case of aGreek exit, both Scandies as relatively illiquid currencies are bound to see significant

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