The Swedish crown and the Australian dollar are set for further gains in the coming year as central banks, sovereign wealth funds and other longer-term investors seek alternatives to the euro. The euro zone debt crisis has deepened since late last year, intensifying investors' flight out of euros as worries increased about the prospect of a chaotic Greek default and speculation grew that the euro zone could eventually break up.
Central banks in Asia, the Middle East and Russia have long sought to diversify large holdings of US dollars, mostly into euros, but Europe's debt crisis has led some to switch some euros into currencies with more stable long-term prospects.
With the Nordic countries' top-notch credit ratings, Scandinavian currencies and commodity-linked currencies such as the Aussie dollar are particularly attractive. IMF data shows "other currencies", including commodity-linked, Scandinavian and emerging currencies, accounted for 4.8 percent of overall foreign exchange reserves in the third quarter of 2011, up from 2.1 percent at the beginning of 2009."The increased allocation towards these currencies is clear and will likely continue," said James Pearson, global head of FX spot trading at Royal Bank of Scotland.Sources in foreign exchange trading and sales who deal with central banks and other long-term investors say they have ramped up demand to diversify euro holdings since late 2011.They say this is a significant factor behind the euro's recent slide to record lows against the Australian and New Zealand dollars and multi-month lows versus the Swedish crown, and a reason to expect more falls.
"I have seen clients increase their reserves by 5 percent plus into the Australian dollar," a head of FX sales at a major bank said, adding that the bulk of this was out of euros.Although he said much of the recent switch may have finished, the process was likely to pick up again if worries about the possibility of a euro zone break-up resurfaced.Few central banks disclose the make-up of their reserves, but those that do have expressed interest in commodity and Scandinavian currencies.
Late last month, the Russian central bank's first deputy chairman, Alexei Ulyukayev, said the bank may begin buying Australian dollars from early February. Since 2010, the Swiss National Bank has added the Australian dollar, the Swedish crown and the Danish crown to its reserves, along with the Singapore dollar. By the third quarter of last year these currencies made up 3 percent of its reserves."We see interest in Scandies amongst our clients, particularly from Asian reserve managers and that theme will continue for a long time," said Carl Hammer, chief currency strategist at SEB in Stockholm."
Reserve managers need a certain size of the market, so that is a handicap for Norway and Sweden. But they are making small allocations to these markets."Swedish balance of payments data shows a growing gap in favour of foreign purchases of Swedish assets over domestic purchases of foreign assets.While Scandinavian currencies are attractive to investors wanting exposure to Europe, the Aussie dollar is often seen by central banks and sovereign wealth funds as a proxy for Asian FX exposure when most Asian currencies are not freely floated.THIN LIQUIDITY However, analysts say smaller currencies are vulnerable to steep falls in times of financial stress when market players typically retreat to the liquidity of the US dollar.