Switzerland's Back to Battling Might of Global Currency Markets

  • SNB is seen defending an unofficial franc cap of 1.08 per euro
  • Expanding balance sheet, rise in volatility viewed as dangers

The Swiss National Bank in Bern, Switzerland.

Photographer: Gianluca Colla/Bloomberg

The Swiss National Bank may have abandoned its currency cap, but that doesn’t mean it has stopped capping its currency.

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While policy makers haven’t confirmed it, they’re defending a de facto franc limit more than 10 percent stronger than the one they scrapped 21 months ago, according to Bank of America Corp. and the wealth-management unit of UBS Group AG. The franc appreciated to this 1.08-per-euro threshold four times since mid-year, and each time snapped back.

Preventing a stronger franc, which could hurt the economy, comes at a cost to the SNB. Intervening to buy euros has helped push its foreign reserves to a record of about $630 billion, leaving the central bank vulnerable to swings in currency markets as it manages a growing pot of money. Preventing an “uncontrollable expansion” of its balance sheet was one of the reasons SNB President Thomas Jordan gave for dropping the official cap in January 2015, when its reserves stood at $498 billion.

“There’s continuous political pressure on the SNB that it’s using so much money for stabilizing the currency,” said David Kohl, the Frankfurt-based head of foreign-exchange research at Julius Baer Group Ltd., ranked by Bloomberg as the most-accurate currency forecaster. “With this intervention, they have quite a lot of euro assets, and of course if there’s an appreciation of the franc, these euro assets will lose in terms of value.”

The unofficial cap has helped the franc become one of the least-volatile major currencies versus the euro during the past six months. Only the pegged Danish krone has experienced smaller price swings. SNB spokesman Walter Meier declined to comment on the existence on a de facto exchange-rate cap.

“There’s no suggestion from the SNB themselves that they’ve set a floor,” said Kamal Sharma, director of Group-of-10 currency strategy at Bank of America in London. “But we look at the price action, we look at the charts, and we say that 1.08 has been a level which the Swiss franc hasn’t been able to strengthen beyond.”

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The franc was at 1.083 per euro on Monday in New York. It rallied in the wake of Britain’s June 23 vote to leave the European Union, prompting the SNB to openly step in to curb its advance, and has been little changed since then.

The newfound calm marks a turnaround from the aftermath of Jan. 15, 2015, when the SNB’s shock decision to end its currency cap sent the franc surging more than 40 percent in matter of minutes, sparking turmoil across global markets.

There’s a danger this volatility could return if defending the “soft floor” in the euro-franc rate becomes unsustainable, according to Thomas Flury, the global head of currency strategy at UBS Wealth Management.

“I personally don’t trust the 1.08 floor” because the SNB could shift it at any time to account for moves in the euro, Zurich-based Flury said. “As we’ve seen when the floor was broken in January 2015, if you have the floor for too long a time, the impact of breaking” it can be “quite harsh,” not only for the franc, but other currencies, too, he said.

Flury sees the franc remaining little changed through year-end at 1.08 per euro. Bank of America predicts a level of 1.09, in line with the median of 55 forecasts in a Bloomberg survey. Contributors see no prospect of the currency returning to its former 1.20-per-euro level even as far out as 2020.

The SNB just reported a profit, including on its foreign-currency reserves, but the memory of last year’s record loss remains fresh in strategists’ minds.

That Switzerland is willing to risk a return to the volatility of 2015 underscores the pressure the franc is under from investors seeking a safe place to park their cash in case the global economy turns sour.

The SNB’s Jordan frequently complains the local currency is overvalued, and said last week that he’d cut the bank’s minus 0.75 percent deposit rate further if necessary to keep the franc in check. The central bank introduced the developed world’s lowest deposit rate when it ended its official currency ceiling.

While Switzerland’s economy is improving, weaknesses persist and the nation can’t afford a spiraling franc to set back its recovery. Swiss gross domestic product grew 0.6 percent in the second quarter, beating the average pace across the major developed economies. A current-account surplus equal to 10 percent of output means there are always ready buyers of the franc, but a pronounced rally would damage the SNB’s efforts to rectify the falling consumer prices that have blighted the nation for two years.

“I wouldn’t say 1.08 is a line in the sand, but it’s a favored point for them to start to jawbone and possibly to do some intervention,” said Peter Frank, global head of G-10 and Asian currency strategy at Banco Bilbao Vizcaya Argentaria SA in London. “Whether or not they have an explicit target, they want the market to think there’s one.”

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