After a two-year holiday it looks as though the Swiss Franc might be back

28th August 2014 by The Harried House Hunter

The economic situation at the moment has several features which are inter-twined. We have the flaring up of several flash points of which the most dangerous at the moment appears to be in the Ukraine. Also we have a struggling Euro area economy an example of which has appeared this morning where even one of the current outperformers Spain has declared consumer inflation running in August at an annual rate of -0.5%. In response to this the European Central Bank will unveil its Targeted Long-Term Refinancing Operations (TLTRO) next month and of course it has already dipped one of its toes into the world of negative interest-rates. These are likely if you read the speech given by ECB President Mario Draghi at Jackson Hole last weekend to be opening salvoes in what is looking likely to be a long campaign. One consequence of the ECB’s actions has been a Euro which has drifted lower to around the 1.32 level versus the US Dollar.

What about the Swiss Franc?

We are describing above a scenario where a perceived safe-haven such as the Swiss Franc might start to look even more attractive. After all the Swiss doctrine of neutrality means that they are unlikely to find themselves entangled in the mess which is the state of play in Ukraine. Also the Swiss economy has managed to grow in each of the last seven quarters and as of the end of the first quarter of 2014 was growing at an annual rate of 2%.

Anybody remembering the problems of a few years ago when the Swiss Franc surged? Well recently it has been rising and overnight it has pushed higher again to 1.2066 versus the Euro as I type this. So we have another sign of rising tension which takes us back to troubled days in the past.

What will the Swiss National Bank do?

Let us remind ourselves of its past promises, from just under three years ago on the 6th of September 2011.

The Swiss National Bank (SNB) is therefore aiming for a substantial and sustained weakening of the Swiss franc. With immediate effect, it will no longer tolerate a EUR/CHF exchange rate below the minimum rate of CHF 1.20. The SNB will enforce this minimum rate with the utmost determination and is prepared to buy foreign currency in unlimited quantities.

You may note that the “substantial and sustained weakening” promised by the rhetoric is hardly matched by it being at 1.2066 some three years later! Although to be fair the Swiss Franc did fall to around 1.25 versus the Euro for a bit although this was a time rife with rumours that its minimum bid level would rise to either 1.25 or 1.30 via “further measures”. Perhaps you could argue that markets have decided that such rumours were like the boy who cried wolf, although the environment has also changed as discussed above.

So the SNB will be girding it loins right now just in case it has to intervene again. After the embarrassing episode when markets nudged the rate through 1.20 it developed the habit of beginning its interventions ahead of the 1.20 barrier so do not be surprised if it does this again.

The SNB as a hedge fund

As a result of its sales of the Swiss Franc and purchases of the Euro the SNB has found itself in a position where it had foreign currency investments of 457.2 billion Swiss Franc equivalents as of the end of June. This is a substantial amount and has ballooned the size of its balance sheet which otherwise would be a tenth of what it currently is. In that form it has been compared to a type of Quantitative Easing.

The issue of the SNB as a hedge fund comes from the fact that having so much money has changed the way it invests the reserves. In the past central banks would mostly hold short-dated bonds in the various major currencies (Euros,Dollars,Yen, Sterling etc…) but that has changed.

In 2013, the SNB increased the share of equities in its foreign currency investments from 12% to 16%. It expanded its equity portfolio to cover equities of small-cap companies, as well as equities from advanced economies that had previously not been included.

Personally I think that such a change for a central bank is rather dubious to say the least but it is the current state of play.

 In the long term, equity holdings contribute to both a higher potential return and a more balanced risk profile of the assets.

What about the Swiss economy?

The Swiss money supply surged in response to the creation of new Swiss Francs (to be sold) by the SNB and in terms of broad money (M3) peaked at an annual rate of just over 11% in the summer of 2013. In the past the monetary growth surge following the period of foreign exchange interventions would have been inflationary. But not so far this time around as the credit crunch brings us another surprise. If I may make a broad brush sweep then four years of excess monetary growth has led to no inflation at all so far at least. Looking forwards there seems also to be little sign of it on the horizon.

 At 0.1%, the inflation forecast for the current year is 0.1 percentage points higher than in March. For 2015 and 2016, the new forecast – of 0.3% for 2015 and 0.9% for 2016 – is 0.1 percentage points lower, in each case, than at the previous monetary policy assessment.

Of course there is a begged question here which is to ask what the level of disinflation would have been in Switzerland if the currency had been allowed to surge?

What about bond yields?

Swiss government bonds have joined in the summer rally of 2014 and of the world’s main economies it has the lowest ten-year benchmark yield at 0.45%. Puts Germany’s 0.9% in perspective (as well as telling us where German yields would be if it kept the Deutchemark) does it not? Also we learn that in government bonds in Switzerland there is in effect no interest or as near as makes no difference. Accordingly are investors speculating on a continuation of disinflation? I was wondering how annuities now work in Germany with its low bond yields only yesterday and the issue is larger in Switzerland. It becomes a currency play which if you think about it is a possible tsunami for the SNB. In an extreme scenario promising “unlimited intervention” would turn out to be none too bright.

What about Eastern Europe?

Obviously there are plenty of fears in eastern Europe right now about possible further Russian expansionism. But for newer readers what I am referring to here is the amount of foreign currency borrowing that took place in thsi region and in particular the Swiss Franc component of it. Just as an example there was a spell where it was estimated to 60% of all borrowing in Hungary was denominated in Swiss Francs. In case you were wondering why back then interest-rates in Swiss Francs were lower and the effect of the “carry trade” as this became called was also to depress the value of the Swiss Franc. So win-win. Until the creidt crunch hit and the Swiss Franc surged and mortgage borrowers saw both their debt and their monthly repayments shoot up.

Different countries have dealt with this problem in different ways as Hungary for example shifted the problem mostly to the (foreign-owned) banks. But a new period of strength for the Swiss Franc would begin to open up a few old wounds and as ever it would happen at a time when the patient was weakest. If we just look at Hungary the exchange rate has moved above 260 Forints to the Swiss Franc so as Glenn Frey put it.

The heat is on, the heat is on, the heat is on
Oh it’s on the street, the heat is on


There is much to consider here and let us start with Switzerland itself. It faces the possibility of being an enormous hedge fund with an attached country and population should the Swiss Franc find more support. So far it has recovered from the credit crunch grown and avoided any inflation from its monetary surge. But as we look wider we see that it has exported disinflation to the Euro area by its currency cap. Of course there are other factors but it is in there too and one day other countries citizens may mull how Switzerland rescued itself at their expense.

But as ever the situation is complicated as some in eastern Europe will be grateful for the efforts of the SNB as otherwise it seems likely that they would have seen their mortgages explode. Is the price of a bailout for them more disinflation in the Euro area? On top of it all there is now the possibility that the “cure” was only temporary and like the Terminator the Swiss Franc is saying “I’m back”.





15 thoughts on “After a two-year holiday it looks as though the Swiss Franc might be back”

  1. Anonymous says:

    Shaun, could the Swiss impose a small tax (Tobin style) on all deals to sell or purchase SFs?

    1. Anonymous says:

      Hi Ian

      They could within their borders/jurisdiction but it would be impossible to police deals done abroad. Indeed it would probably drive deals abroad in a similar manner to the way that the Eurobond market developed.

      Actually you have reminded me that the whole Tobin tax issue has gone rather quiet for a while…

  2. Paul C says:

    Hi Shaun,
    I am pleased you mention Switzerland because I go there regularly and have seen no change whatsover in their premium cossetted life, it is so nice there, cows, cheese, watches & chocloate, full employment, mountains and federated democracy.
    There is as you point out an implied criticism in their so called independent neutrality and the purchase of €390bn, they are a significant player in the pepertuation of this sick Eurozone, I guess their population doesn’t know it or tacitly agrees as long as toblerones get exported.
    Thankfully since they are “in it” to the hilt then they will also “cop it” when things explode, if that ever happens.
    The number of international organisations and EMEA head offices that operate out of this central part of Western Europe will together have a great influence in ensuring that the status quo is maintained.
    Don’t look to the Swiss for leadership.

    1. Anonymous says:

      Hi Paul C

      Switzerland has been a relative oasis of calm in the credit crunch era. Even the surge in the Swiss Franc did not harm its economic prospects too much. But the price has been and indeed is being paid in the Euro area.

      One oddity of all this would be if the Swiss France stayed closed to 1.20 versus the Euro over the coming years and in effect gave it a fixed exchange-rate with the Euro.

  3. digger says:

    Central banks buying equities as worldwide equities hit $66 trillion and S&P 500 at 2000.Can’t see that going wrong.

    The Swiss are the ultimate peacenik hypocrites and therefore the best custodians of safety deposit boxes.

    1. Anonymous says:

      Hi Digger

      It is the other “currency twin” the Bank of Japan which is the other major central bank which has advanced into holding equities and in its case real estate investments too. But as time passes the fear is that other central banks will play follow my leader.

      As to their skill well the Bank of England was far from alone selling gold near to its low a decade and a bit ago. These days with gold prices high then central banks have mostly been buyers. How does that work out?

  4. Forbin says:

    ” …. Switzerland itself. It faces the possibility of being an enormous hedge fund with an attached country and population…..”

    like Ireland , Iceland and Cyprus ?

    except more like Iceland , if it all goes Pete Tong they can just NOT bail out the Bankers…..

    What could go wrong ?


    PS : I believe they have still a functioning democracy , not an oligarchy like us and the Franco-German Empire……..

    1. Anonymous says:

      Hi Forbin

      Yes there is much to admire in their democratic system and its regular referenda. However the problem with casting their banking sector adrift is that Switzerland is so associated and intertwined with its banking sector.

      On the upside corn prices seem to be remaining low (-28% year on year).

  5. Anonymous says:

    I’m trying to assess the risks to the SNB.

    Sell CHF and buy OATs (French govt bonds) – the SNB could be throwing good money after bad.

    But if the SNB allowed the franc down to 1.14 for a day then intervened back to 1.20, all the bankers who bought at 1.14 have lost 5% in a day. I’ll just clean my desk and grab my coat on the way out …… I’d not want to bet against the SNB.

    Expanding the monetary base does not need to cause inflation, assuming that the additional money is being saved / used by foreigners in trade outside Switzerland. That would be a step towards reserve currency status.

    1. Anonymous says:

      Hi ExpatInBG

      I remember discussing a while ago rumours that the SNB had been making some substantial purchases of OATs and that they were not just short-term ones. Such a trade would have been very successful as I discussed only yesterday.

      I agree with your point about the monetary expansion which seems to have been sucked up by foreign demand.

      1. Anonymous says:

        “Such a move would have been very successful”, yes on paper today. But at the current yield, I’d be itching to sell and bank the profits. But it does beg the question where to put the cash next

  6. therrawbuzzin says:

    A landlocked country (no fishing grounds or tidal or wave power) of less than ten million souls, whose only national resource is snow, and whose exports consist of timepieces and dairy products, and no EU membership, has the hardest currency in Europe, and a GDP per capita of $86 000.
    Bigger is better :O

    1. Anonymous says:

      Hi therrawbuzzin

      I recall the example of Norway being raised in the Scottish independence debate, but do not recall the status of the Swiss being raised. Has it…?

  7. Eric says:

    Hi Shaun,
    Interesting stuff.

    In 1960 on my first visit to Switzerland as a tourist I got 12SFr/£.

    In 1997 on my last visit, while sipping very expensive coffee in Interlaken, I bemoaned an exchange rate of about 2SFr/£ to an elderly gentleman at the next table who said “Huh, when I first came here in 1936 I got 30 francs for my £.”
    Meanwhile the Swiss tourist industry was rapidly trying to learn Japanese.

    Today a British tourist will get less than 1.5 francs for a £. I often wonder how many British tourists still visit Switzerland.

    There seems no end to the rise of the Swiss Franc in spite of King Canute style attempts to hold it back.

  8. therrawbuzzin says:

    Well, the obvious choice for comparison is Norway, because of its similar natural resources, but there is some comparison with other smaller European countries:

    Independent Scotland ‘would be higher in human development table than UK’

    SCOTLAND would move higher up the world league table for human development if it became independent, while the rest of the UK would go backwards after a Yes vote, according to new research by a leading economic research body.

    SCOTLAND would move higher up the world league table for human development if it became independent, while the rest of the UK would go backwards after a Yes vote, according to new research by a leading economic research body.

    The report, The Success of Small Countries by the Credit Suisse Research Institute, found an independent Scotland would easily outperform the rump UK on the United Nation’s Human Development Index (HDI), which combines economic, education and health measurements.

    Catalonia would also outrank the rest of Spain on the HDI if it became independent.

    The report compares the performance of the world’s 109 small countries, with populations below 10 million, to that of the 85 countries with more than 10 million people.

    The report said the recent economic crisis showed the fragility of some small countries, with the “peak-to-trough falls in GDP from 2008 to 2014 being the most dramatic for the Baltic states, Iceland, Ireland and Portugal.” Sweden and Switzerland fared much better.

    But the report also identifies strengths seen in small countries, such as strong HDI.

    In the event of independence, it said: “Both Catalonia and Scotland will rank higher than Spain and the UK respectively. Catalonia would rank 20th globally, while Spain ranks currently 23rd and would slip to 26th ex-Catalonia.

    “Scotland would rank 23rd if we include a geographical allocation … related to North Sea oil output, versus the current 27th place for the UK and the hypothetical 30th for the UK ex-Scotland.

    “Note that even excluding any allocation of oil output, Scotland would still rank ahead of the UK, but just so.”

    The report also found small countries were strongest for “intangible infrastructure”, the political, legal and socio-economic factors which foster social and economic progress.

    These include political stability, strong institutions, rule of law, stable tax policies, research and development, and education. It said: “It seems excellence in intangible infrastructure is a small country speciality.”

    However, the report also suggests SNP plans to model Scotland on Nordic nations such as Norway would not be straightforward.

    Small countries such as Norway and Switzerland benefited from “vintage”, the report said, with stable institutions and good infrastructure.

    “Older, small countries, notably those in the alpine and Nordic regions, tend to be pinpointed as the model for other small nations to follow, though many of the factors that have contributed to the success of the alpine or Nordic countries are not transferable … Many of the ingredients that have contributed to one country’s success are very difficult to ‘cut and paste’ on to other nations.”

    Shortly before 2008 turned Iceland into an economic basketcase, Alex Salmond hailed it as part of an “arc or prosperity” with Ireland. The report says such praise can be a bad sign.

    “The designation of a particular country as a model for others to follow invariably marks the peak in that country’s (hubristic) growth. Iceland and Turkey are good recent examples.”

    SNP Finance Secretary John Swinney said: “This highlights once again that Scotland is perfectly positioned to flourish as an independent nation able to concentrate on our talents, grow our economy and build a better and fairer society.”

Leave a Reply

Your email address will not be published. Required fields are marked *