Swiss Franc Uncertainty Driving Currency Lower Against Euro

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Includes: FXF
by: Discount Fountain

Summary

With the CHF having risen by 40% against EUR, it is likely that hedge funds will continue to take profit on CHF positions, leading to further weakness.

It is likely that Swiss imports will temporarily rise as Swiss consumers buy foreign currencies while CHF retains a certain degree of strength.

With a 40% probability of recession in Switzerland, efforts will be taken to bolster exports. In either case, CHF depreciation is likely.

Since the move by the Swiss National Bank to unpeg the Swiss France from the euro, the sudden spike in CHF by over 40% appears to be reversing, despite this being referred to as the "sharpest move by a major currency in history."

Source: Yahoo Finance

In my previous article on the subject, I had predicted that over the next few months, the Swiss Franc will steadily continue to depreciate against the euro. I reaffirm my view in this article, and there are several reasons for this.

1. We have of course heard of large hedge funds such as Everest Capital being put out of business for being on the wrong side of the trade; i.e. short CHF. However, for every hedge fund put out of business, there is another that made more money than they could have ever imagined as a result of the events of 15 January. It is not unreasonable to assume that a major reason behind the CHF sell-off is that many large hedge funds are keen to take profits in positions linked to the CHF, i.e. such funds would have either went long the currency directly, or had significant positions in Swiss stocks that were denominated in CHF. I expect this will have a domino effect over the coming months, i.e. the lower the currency goes, the more keen funds will be to cash in on their profits.

2. There are now talks of a recession in Switzerland occurring as a result of the decision to unpeg from the euro. Granted, in my previous article I had explained that Switzerland's economy should remain strong as a result of greater flexibility over interest rates and ability to use monetary policy to lower the currency to increase exports. However, regardless of what happens with the economy, Switzerland will have no interest in keeping the Swiss Franc strong. The whole reason for the peg in the first place was because the currency was so strong and the peg was the only way to artificially weaken it. Should there be a recession in Switzerland, then a stock market sell-off will mean less demand for CHF and hence a depreciation in the currency. By the same token, exports need to rise for the Swiss National Bank to prevent a recession and again, this means the CHF has to come down. It really is not in Switzerland's interest to have a strong currency at this point.

3. Let's take the worst case scenario for a moment and suppose Switzerland does fall into recession. Apparently, 40% of economists surveyed by Bloomberg believe there is a greater chance of a recession in Switzerland than in Greece. The official reason for the unpegging as given by the Swiss National Bank was that a weaker currency was leading to inflation in Switzerland and causing high prices within the real estate sector. However, with the official cash rate in Switzerland being reduced from -0.25% to -0.75%, there is clearly no attempt to stop quantitative easing measures. As I have mentioned before, negative interest rates do actually have the potential to often cause deflation rather than inflation since consumers stop spending in anticipation of lower prices. This may especially materialize in the face of a depreciating Swiss Franc - imports will temporarily rise as consumers buy foreign currencies while the CHF is still maintaining a certain degree of strength.

In conclusion, regardless of subsequent economic events in Switzerland, I do not see that any case can be made for a strong Swiss Franc - it is simply not in the Swiss national interest and I expect that both economic factors, as well as direct intervention by the Swiss National Bank will mean we will see a lower CHF over the next few months.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.