Swiss Franc Surges Stunning 41% After SNB Abandons Euro Peg

Manish Shah
15 Jan, 2015
New York City

Swiss National Bank in a move that was designed to surprise markets abandoned its three-year old peg to the euro. The expensive franc peg to euro was about to become even more costly as the European Central Bank prepares its bond buying program and weaken currency more.

[R]11:05 AM New York – Swiss National Bank in a move that was designed to surprise markets abandoned its three-year old peg to the euro. The expensive franc peg to euro was about to become even more costly as the European Central Bank prepares its bond buying program and weaken currency more.[/R]

Swiss National Bank abandoned the franc peg to euro that only a month ago it defended in a public campaign with “unlimited quantities” of funds.

In a sharp policy reversal, the central bank said it will no longer defend the minimum peg of 1.20 franc to a euro, ahead of key meeting of European Central Bank policymakers.

The central bank also lowered its interest rate by 50 basis points to -0.75% meaning investors will have to pay to hold deposits in Swiss franc. The move is likely to dissuade foreign investors from the popular currency deemed as a safe haven.

The bank also said it will move interest rate target for three-month London interbank offered rate for francs deeper into negative territory.

The interest rate range is now revised to between minus 1.25% and minus 0.25% from the current target range between minus 0.75% to 0.25%.

SNB had put in place the peg in 2011 after the franc had become the choice currency for many investors seeking a safe haven from the rising turmoil in the euro zone.

For three and a half year, the SNB had defended the peg and kept the Swiss franc under check and helped exporters of a nation that has a large banking industry.

The sudden and unexpected move by the central bank surprised stock and currency markets and the reaction was bordering to extreme moves.

Franc Soars 41% Against Euro

At one point Swiss franc surged as much as 41% against the euro, soared 27% against the dollar and the stock market index plunged more than 14%.

At the height, the franc traded at 85.17 centimes to a euro before stabilizing at 1.023 to a euro. Against the dollar, the Swiss franc stabilized at 87.33 centimes.

The dramatic moves in the currency and stock markets caught many investors off-guard in the nation and in Europe.

SNB President Thomas Jordan confirmed that the move was supposed to be a surprise to avoid trades that could harm financial systems.

Huge Foreign Exchange Losses in Zurich and London

Several currency traders reported large losses in portfolios and many foreign exchange traders may be forced to shut down several portfolio as a large number of stop loss trades are still not completed, according to several foreign exchange desks in Zurich and Geneva.

What Forced SNB to Abandon the Peg?

The decision by the central bank to abandon the peg that had become expensive to defend may have been forced by the policy meeting of the ECB next week, the upcoming election in Greece and the dramatic fall in commodities prices in the last six months.

ECB has signalled markets for more than a month now that the central bank is preparing to announce a large stimulus program that may lead to printing of as many as 700 billion euros.

In addition, Greece is heading for an early election that may lead to a new government hostile to economic reforms and the party expected to win has publicly avowed to not repay in full the large international loans.

Also, the sharp fall in crude and copper prices have anchored deflationary trends in the euro zone and in Switzerland and the SNB has found it difficult to dislodge these trends and support domestic economic growth.

SMI Plunges 14%

After the SNB move, exporting companies like Holcim Ltd and Swatch dropped as much as 15% along with the plunge in market index.

Julius Bear, Group Ltd plunged 12%, Credit Suisse Group AG and UBS Group AG dropped 11%.

SMI index, dropped as much as 14% before recovering to close down 10.2% to 8,262.47.

Market indexes in Germany, Italy, France and UK soared between 1.4% and 2.5%.

“While the Swiss franc is still high, the overvaluation has decreased as a whole since the introduction of the minimum exchange rate. The economy was able to take advantage of this phase to adjust to the new situation,” the Swiss National Bank said in a statement.

However, the peg’s defence was increasingly expensive and the central bank had pumped billions of francs in the financial system with the purchase of euro.

The euro has declined 15% against the dollar since last May, to a nine-year low on the expectations that the ECB is about to embark on a large government bond buying program and weaken the euro further.

With the new euros soon to be printed by the European Central Bank, the SNB would need another round of expensive purchases of euro that will only make large losses at the central bank larger.