© Peter Frank
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In our view, the reason the SNB decided to take this action is because of the QE announcement expected the following week. They could have removed the floor earlier or later, however, the QE decision was decisive. In addition, the rumors within the market, yet to be confirmed, that the SNB was beginning to lose quite a lot of money defending the floor. If we look at the price action few weeks before their decision, it becomes clear that the EUR/CHF pair was moving down every time it tried to hike.
Therefore, in case they believed that defending the floor was going to be way too expensive in the short-term, that was probably going to be eliminated anyway. Hence, it was logical to remove the floor a few days before the QE was announced. Obviously, as we have seen from that announcement coming after the 1.20 removal, the QE was actually about a double from what the market had expected.
The decision shocked the Swiss export industry members, who send 56% of products to the EU. Now, they will have to deal with a significantly stronger currency. How can the stronger Franc pressure the export-oriented businesses?
All of a sudden, the Swiss exporters become less competitive amid the appreciation of the CHF. This will immediately cut their profits, which is the main problem. The short-term effect surely persists, it compresses week of profits into pure losses. Respectively, the first-round effect will be very uneven. The main reason is because the Swiss exports are very diverse, and some of them are not very sensitive to the exchange rates.
However, such a big change will definitely affect every business in the short-run. Moving on, the main issue is whether or not some specific companies could pass on the pressure coming from the stronger Swiss Franc. To some extent, they have the potential to reduce profit margins to insulate the price effect. In other case, they can just invest more, as now they have more capital due to the stronger currency. Therefore, it gives some capital boost to speed up even more, together with plans to diversify. Thus, there are some positive sides in the second option, whereas the first one is something all companies will face in Switzerland.
On the contrary, those companies who use large numbers of imported components for their products would find the possibility of buying cheaper as an advantage. Do you see any other advantages of the stronger Franc for the domestic market?
Obviously, if a company buys its raw materials, particularly commodities, they are a lot cheaper. Among some other advantages for the domestic market we can include the transfer of capital to importers from exporters. However, in a world we are living today, a lot of companies are both. As a matter of fact, it is not just raw materials, but also energy, goods, labor, new technology and so on. Thus, if the currency has jumped like the Swiss Franc has done, that gives a free capital, which was not budgeted, to spend on structural changes. In other words, it is a productivity enhancing event.
As long as Switzerland survives the price hit from the decline in the profit value of goods they sell, they will be able to use the positives of the currency surge to restructure and create a more productive base for their economy. What is positive for the Switzerland is that it was one of the most productive countries during the crisis of the past six-seven years, so it is able to withstand such market surprises quite well. In conclusion, we should keep in mind that these are longer- term factors that are not going to show up in the first three-to-nine months as it is more a nine-to-eighteen month cycle, where we start to see the benefits of the big currency appreciation.
Where do you see EUR/CHF pair heading for the Q1 of 2015?
It could be tricky in the short- term because after a big JOLTS it is one of the most significant currency moves in history, so the market needs to settle and find a way of how and under what price to trade the Swissie. From our short-term view, the EUR/CHF is going to trade around the current levels between 0.90 and 1.0. We shot above 1.0 a couple of times in the recent week, yet, we do believe it will drop lower. Nevertheless, we believe that it will be trading around 0.95-0.97 by March and by June it should be above parity, 1.03 or 1.05 during the second half of the year. Eventually, we do look for some stability in the EUR/CHF pair. However, we should be prepared for some tough couple of months where there may be some weak data results not tied to Switzerland. For example, the Greek elections together with the QE already offer a lot of negative risks that could push the cross downwards quite dramatically.