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Franc Options Foreshadow Gain, Denying Victory to Hildebrand

The Swiss government plans to spend 870 million francs to support tourism and exports and preserve jobs, countering the effects of the currency’s “massive overvaluation,” it said on Aug. 31. Photographer: Chris Ratcliffe/Bloomberg
The Swiss government plans to spend 870 million francs to support tourism and exports and preserve jobs, countering the effects of the currency’s “massive overvaluation,” it said on Aug. 31. Photographer: Chris Ratcliffe/Bloomberg

Sept. 6 (Bloomberg) -- Philipp Hildebrand’s success in driving the franc to its lowest level in seven weeks may prove fleeting if options prices are any guide.

The Swiss National Bank president weakened the franc as much as 16 percent against the euro from its Aug. 9 record high by cutting borrowing costs to near zero and boosting supply in money markets six-fold. That hasn’t stopped analysts from predicting it will hold this year’s 13 percent gain against the 17-nation currency by year-end and raising forecasts. Traders drove an indicator of future demand to a record in August.

Hildebrand’s past efforts to stem the franc’s advance, including 15 months of currency sales that contributed to the SNB’s record $21 billion loss last year, couldn’t stop it from outperforming 16 major peers since Europe’s debt crisis began in late 2009. Investors see Switzerland as a refuge because it has a lower ratio of debt to gross domestic product than the euro area and expects budget surpluses through 2013.

“The question is, can the SNB do enough to halt the appreciation of the Swiss franc?” Dirk Aufderheide, head of currencies in Frankfurt at DWS Investment GmbH, which manages about $400 billion, said in an interview on Sept. 1. “We’re probably going to face more inflows when we see a deterioration of Europe’s financial crisis or more growing uncertainty with regard to global risk.”

Exports Hit

Switzerland’s economy is the victim of the currency’s 50 percent advance against the euro since the end of 2007. GDP expanded 0.4 percent in the second quarter, the weakest pace since the economy emerged from a recession in the third quarter of 2009. Exports, which account for about half of GDP, slumped 1.3 percent from the first quarter.

“The Swiss economy has a high probability of falling back into recession given the currency moves,” Christian Gattiker, head of research at Bank Julius Baer & Co., said in an Aug. 31 interview with Andrea Catherwood on Bloomberg Television’s “Last Word.”

Nestle SA, the world’s largest food company, said on Aug. 10 the franc’s gain stripped 14 percentage points off its first-half sales growth. Baloise Holding AG, the nation’s third-biggest insurer, said on Aug. 30 that first-half profit fell 3.4 percent because of the stronger franc.

Ferry operator Bodensee-Schiffsbetriebe GmbH is being hurt by the currency fluctuations because passengers on its Lake Constance ferry between Friedrichshafen, Germany and Romanshorn, Switzerland can opt to pay fares in francs or euros. As the franc appreciated, more Swiss customers chose to pay in euros, saving as much as 39 percent and slicing the company’s profit.

Appeal to ‘Solidarity’

“We can’t force our Swiss passengers to pay in francs,” Silke Rockenstein, a spokeswoman, said in a telephone interview. “We can merely appeal to their solidarity and call on them to opt for the Swiss currency.”

The franc slid from a record 1.00749 per euro on Aug. 9 to 1.10411 at 6:11 a.m. in London today. It was at 78.59 centimes per dollar, down from the record 70.71 on Aug. 9. On a trade-weighted basis, the franc has fallen 9 percent from a record high on Aug. 9. Last week it jumped 4.4 percent against the euro, its biggest one-week advance on record.

The premium for three-month options to sell the euro against the Swiss currency versus those allowing for purchases, a measure of the demand for protection against a higher franc, increased to as much as 4.94 percentage points. Excluding the all-time highs reached last month -- the measure increased to 5.36 percentage points on Aug. 9 -- the premium is at the most since Bloomberg began collecting the data in 2003.

Risk Reversals

These so-called risk-reversals still factor in the risk of “a hefty drop” for the euro against the franc, Ulrich Leuchtmann, head of currency strategy at Commerzbank AG in Frankfurt, said in an interview on Aug. 31. “If the environment changes I think euro-Swiss would again come under quite a lot of pressure.”

Hildebrand, 48, cut interest rates to “as close to zero as possible” on Aug. 3, and subsequently boosted banks’ sight deposits, or cash that can be withdrawn on demand, to 200 billion francs ($255 billion) from 30 billion francs.

The European Central Bank raised its benchmark rate to 1.50 percent in July. The Federal Reserve said after a meeting of policy makers on Aug. 9 that it would keep its benchmark interest rate in a range of zero to 0.25 percent through mid-2013.

Holdings Quadrupled

The SNB quadrupled holdings of foreign currencies in the 15 months through mid-June 2010, before suspending franc sales as a measure to stem its advance. While the central bank said the effort helped fight deflation threats, the franc still rose 19 percent against the euro last year.

The Swiss government plans to spend 870 million francs to support tourism and exports and preserve jobs, countering the effects of the currency’s “massive overvaluation,” it said on Aug. 31.

While the SNB has so far avoided direct foreign-exchange purchases in its latest bid to keep a lid on the franc, it may soon have no alternative, according to Adam Cole, head of currency strategy in London at Royal Bank of Canada, the nation’s largest lender.

“They need to do a lot more,” he said in an interview on Sept. 1. “The fact that they have pushed forward rates into moderately negative territory is nowhere near enough. Which leaves really the only option of intervention and in the absence of that the franc will just continue to grind higher.”

Negative Yields

Yields on two-year Swiss government debt turned negative last month for the first time since Bloomberg began collecting the data in 1995 as investors sacrificed capital for the perceived safety of franc-denominated assets and 10-year rates dipped below equivalent-maturity Japanese securities for the first time since 1994.

Japan, also fighting a rising currency, sold 4.51 trillion yen ($58.7 billion) last month, the Ministry of Finance said on Aug. 31, to bring the yen down from postwar record of 75.95 versus the dollar on Aug. 19. The yen is still 5.7 percent stronger against the dollar this year.

The franc appreciated as the sovereign debt crisis in the euro area deepened. An index measuring the cost of insuring the debt of 15 European governments rose to 328 basis points yesterday, a record based on closing prices, and rising bond yields forced the ECB to buy Spanish and Italian government bonds.

Budget Surpluses

Switzerland’s government said on Aug. 30 it will post annual budget surpluses through 2013 and its public debt will fall to 36.4 percent of GDP this year. The euro area will have a debt-to-GDP ratio of 87.7 percent in 2011 and a deficit of 4.3 percent, according to European Commission forecasts. Switzerland also has a current-account surplus, the broadest measure of trade, which means it doesn’t need to rely on foreign capital to fund a deficit.

“The SNB’s recent actions are probably enough to keep the Swiss franc relatively stable in the absence of severe risk aversion,” driving investors into assets perceived as the safest, said Paul Robson, a senior foreign-exchange strategist at Royal Bank of Scotland Group Plc in London.

“But what happens to the franc is out of the hands of the Swiss authorities,” he said in an interview on Aug. 31. He confirmed the comments yesterday. “There will be episodes where money flowing into the franc won’t care about the interest-rate being charged on it. When push comes to shove I think they will just be blown away again.”

Volatility High

Finance Minister Eveline Widmer-Schlumpf said on Aug. 17 that the government supports “any” measure deemed appropriate by the central bank, including setting a target rate for the franc versus the euro.

“The situation hasn’t calmed down,” Economy Minister Johann Schneider-Ammann said at a briefing with reporters on Aug. 31. “Volatility remains high. We’ll probably have to live with the strong franc for a longer period of time.”

Economists are still boosting their year-end forecasts for the Swiss franc against the euro, according to data compiled by Bloomberg. The median estimate of 24 contributors is for the currency to trade at 1.12 per euro at the end of the fourth quarter, the data show. That’s stronger than the median year-end analyst forecast for 1.22 per euro a month ago and 1.35 per euro on Dec. 31.

“The uptrend remains firmly in place,” Lee Hardman, a currency strategist at Bank of Tokyo-Mitsubishi UFJ Ltd. in London, said yesterday. “We believe there is a high likelihood that the franc will test parity before year-end. Current SNB actions on their own are unlikely to alter the direction of the Swiss franc without a change in the underlying fundamentals. We’d still look to be buying the franc against the euro.”

To contact the reporters on this story: Paul Dobson in London at; Klaus Wille in Zurich at

To contact the editor responsible for this story: Daniel Tilles at

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