Long-Term Swiss Franc Strength: Remnants of the Last U.S. Default

Includes: FXF, UDN, UUP
by: Richard Bloch

Looking at how strongly the Swiss franc is trading against the U.S. dollar reminded me of an article I saw about what happened that last time the U.S. defaulted on its debt back in 1979.

Evidently, the U.S. Treasury missed a few payments – $120 million worth because Congress cut it really close (by only a few hours) in approving a debt ceiling hike to what now seems like a quaint $830 billion (today the debt ceiling being debated is something like $14 trillion).

I’d never read anything about that specific incident. On the other hand, the late 1970s were filled with so much economic calamities that a $120 million here and there probably got lost in the shuffle.

But depending upon your definition of “default,” I’d say events in 1971 represented the last time the U.S. really broke a promise.

On Sunday night August 15, 1971 President Nixon announced that the U.S. dollar would no longer be convertible into gold. The dollar would float against all other world currencies – a move that caused a lot of chaos, closing the forex markets of the era for several days.

Interestingly, the stock market rallied strongly that next Monday, with the S&P 500 rising 3.2%, a big move for those days.

Yet over the longer term, that set the stage for slow descent of the U.S. dollar, which you can see in terms of the Swiss franc.

A long steady rise in the Swiss franc

Here’s a look at the Swiss franc just over the past two years – up more than 30% against the U.S. dollar (up about 15% so far this year alone).

But put in the context of the last 50 years, that recent move does not seem so huge at all.

See how nice and steady things were until 1971? Then all hell seemed to break loose for decades to come.

Could the Swiss franc become the world’s next reserve currency? That seems like a lot of pressure for a fairly small country. And I don’t think the Swiss would be all to happy with that either. After all, it takes a lot of money to back the rest of the world’s money – and it doesn’t look like the Swiss want all that much money out there.

Here’s a look at the Swiss money supply based on data from the Swiss National Bank.

This is data for M3, which is generally recognized as the broadest definition of the money supply – so broad that the Fed has stopped publishing its own M3 data on the U.S. dollar.

Like many currencies, the supply of Swiss francs grew rapidly in reaction to the financial crisis, but that supply has been contracting over the past year or so – and that seems to be at least one reason why the Swiss franc has become stronger.

Compare that to the U.S. money supply.

No sign of restraint here. The green line actually shows M2, a narrower definition of the money supply. The blue line shows the broader M3 data, until 2006 when the Fed stopped publishing that data. Shadowstats says that could be about $15 trillion by now, but who really knows for sure?

In any event, I expect the Swiss may not want a currency that’s too expensive. That’s great for importing, but not so hot for exporting. And while I’m no forex expert, I’ll bet it’s pretty easy for a government to weaken its own currency if it chooses to – certainly harder than trying to take a weak currency and make it stronger.

One of the easiest ways to invest in the Swiss franc is through the CurrencyShares Swiss Franc trust (NYSEARCA:FXF). It essentially tracks the currency in a way that mirrors having a money market account denominated in Swiss francs – interest and all.

Unfortunately, you don’t get any interest from the Swiss franc these days. But if the U.S. defaults, we may be able to earn a lot higher yields here in the U.S.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.