The Overview of Swiss francs (CHF)
Switzerland has a prosperous economy, the highest GDP per person, and higher stability than many other economies. Its wealth depends primarily on technology, tourism and finance in manufacturing.
With its history of chemical, pharmaceutical, industrial, mechanical, instruments along with clocks, and investor confidentiality, Switzerland and the Swiss currency gained a reputation as safe-havens, making it the world’s largest offshore asset destination.
Switzerland has more than $2 trillion in offshore assets and is estimated to account for more than 35% of the world’s private asset management business. As a result, the highly developed large-scale financial and insurance industries have developed, with more than 50% of Switzerland’s population engaged, accounting for more than 70% of total GDP.
Switzerland’s financial industry has flourished with its status as a haven and strict customer confidentiality. Therefore, when there is a strong global tendency to hedge, the inflow of funds leads the economy, and when the tendency to take risks increases, trade leads the economy.
Swiss National Bank to Determine Monetary Policy
The Swiss National Bank of Switzerland (SNB) is an independent central bank that determines Switzerland’s monetary policy. The committee consists of a chairperson, a vice-chairperson, and other members of the SNB Executive Committee. All decisions are made based on an agreed-upon vote because of the number of people involved.
The Commission reviews monetary policy at least once every quarter, but monetary policy can be determined and published at any time. Unlike most central banks, the SNB does not set an official interest rate target. Instead, it has set a target range for the three-month Swiss Ribo rate.
The SNB set its target at the currency target of M3 but shifted to an annual inflation rate of 2% in December 1999. The monetary target is still an important indicator, which provides information about long-term inflation, so the central bank is monitoring it intensively. The central bank has made it clear that SNB will implement monetary tightening policies if mid-term inflation exceeds 2%. If deflation concerns are raised, the central bank will ease monetary policy.
SNB also closely monitors the exchange rate. The excessive strength of the Swiss franc could cause an inflationary environment. Judging from the fact that the global risk-averse trend will lead to a significant increase in capital flows to Switzerland, which could trigger a strong Swiss franc.
Eventually, if this situation arrives, it will intervene without delay in the market through liquidity control to prevent the exchange rate from strengthening. Finally, SNB intervenes in the Swiss franc market through various ways such as verbal intervention, currency supply, and exchange rate.
Central Bank Policy Instruments
The most common means of the policy used by SNB to implement monetary policy are as followings:
1. Target Interest Rate Range
The SNB implements monetary policy by setting a target range of three-month interest rates (Swiss Ribo Rates). This range is usually set to a 100BP spread difference and is modified at least once every quarter. This rate is used as a target because it is the most critical market interest rate for investment in Swiss francs. Modifying this target range involves a solid explanation of changes in the economic environment.
2. Open Market Manipulation
Repo trading is SNB’s primary monetary policy instrument. A repo trading in which the borrower sells the securities to the borrower after agreeing to reversely trade the same number of securities as the same stock on a later designated date. This structure is similar to securities-backed loans in which borrowers now pay interest to borrowers.
A repo deal has a very short maturity, from one day to a few weeks. Suppose the three-month revolving rate rises above the target set by the SNB. In that case, the central bank will provide additional liquidity to commercial banks at low-interest rates through repo trading. In other words, it supplies money to the market in the form of buying bonds from commercial banks and paying cash. On the contrary, SNB can increase the repo rate to reduce liquidity or induce a three-month rise in the ribo rate.
The SNB issues quarterly self-reports that reviewed a detailed assessment of current economic conditions and monetary policy. The monthly self-report includes a brief commentary on the economic situation. These reports include information on changes in SNB’s assessment of the current domestic economic situation, which needs to be looked at.
Key characteristics of Swiss Francs
1. Status as a Haven.
This is probably a unique characteristic of the Swiss franc. Switzerland’s safety shelter status and the secrecy of the banking system are always emphasised because they are the most important advantages of the Swiss financial industry. Swiss francs usually move according to overseas events rather than domestic economic conditions.
This is because the Swiss franc is considered the world’s best safe currency due to its political neutrality. Investors think of the stability of investment assets before the return on investment when global instability or uncertainty is highlighted. In this situation, if funds flow into Switzerland, the Swiss franc will be substantial regardless of the economic status in Switzerland.
2. Swiss Francs are Highly Correlated with Gold.
Switzerland is officially the world’s fourth-largest gold holder. The Swiss Constitution stipulates that 40% of monetary reserves should be held in gold. Despite the disappearance of the regulation, the relationship between gold and Swiss francs is deeply in the minds of Swiss investors.
As a result, the Swiss franc correlates nearly 80% with gold. When gold prices rise, Swiss francs are also likely to increase. Gold and Swiss francs are also vital in times of heightened global economy and geopolitical uncertainty, as gold is considered the surest haven to replace the currency.
3. Carry Trade Effect
The phenomenon of investors’ preference for high-yield assets has recently become commonplace, and the size has soared. In other words, carry trading is buying or operating low-interest currency assets by selling or borrowing low-interest currencies.
Because the interest rate of Swiss francs is the lowest among advanced currencies, the currency borrowed or sold by carry trading in Swiss francs. This will result in buying a high-interest currency and selling Swiss francs, a low-interest currency.
4. Follows Price Difference Between Euro Swiss Futures and Foreign Interest Rate Futures.
Professional Swiss traders are keeping an eye on the price gap between the three-month Euro-Swiss futures and the Euro-dollar futures. This difference is a good indicator of potential currency flows because it can determine to what extent the premium of U.S. bonds is higher than or vice versa than that of Swiss bond assets in Switzerland.
Investors are always pursuing high-yield assets, so this difference shows traders the potential currency movements. This is especially important for carry-traders who want to enter or liquidate transactions by taking advantage of the interest rate gap between global bonds.
5. Potential Changes in Bank Regulations
Over the past few years, European Union countries have put considerable pressure on Switzerland to ease secrecy in the banking system and increase transparency in customer accounts. The EU has continued to press Switzerland as part of its aggressive efforts to investigate tax evaders in the EU, which will be of great interest in the future.
This is not an easy decision for Switzerland. The secrecy of customer accounts was a key strength of the Swiss banking system. The EU has threatened to impose severe sanctions if Switzerland fails to comply with the proposal. Negotiations are currently underway between related government agencies to find a more appropriate solution. This change in Swiss financial regulations will affect the Swiss franc as well as the Swiss economy.
6. M&A
The primary industries of Switzerland are banking and finance. Mergers and acquisitions in this industry are widespread throughout the industry, resulting in a significant impact on the Swiss franc.
If a foreign company acquires a Swiss bank or insurance company, they will have to buy Swiss francs and sell their currency, while if a Swiss bank acquires a foreign company, they will have to sell Swiss francs and buy foreign currency. Either way, Swiss franc traders should pay close attention to M&A announcements related to Swiss companies.
7. Trading Movement, Cross-Call Characteristics.
EUR/CHF is the most actively traded currency pair for traders who prefer to trade CHF. USD/CHF has relatively few transactions due to its lack of liquidity and high volatility. However, day traders tend to prefer USD/CHF to EUR/CHF because of its volatility.
In fact, USD/CHF is only a synthetic currency derived from EUR/USD and EUR/CHF. Market makers and professional traders often use these currency pairs as a leading index to make USD/CHF trading. In theory, the USD/CHF exchange rate is the same as the EUR/CHF divided by EUR/USD.
However, its own USD/CHF transactions will only become active during the global hedging trend, such as the Iraq War and the September 11 terrorist attacks. Market participants quickly take advantage of these fine-grained differences in exchange rates to make profits.
Important economic indicators in Switzerland
1. KoF (Swiss Economic Research Institute) Leading Index
The Swiss Economic Research Institute publishes the KoF’s leading economic index. It is commonly used as a measure of the future health of the Swiss economy.
2. Consumer price index
The Consumer Price Index is calculated every month based on retail prices paid in Switzerland. Products selected under general international practice are divided by consumption concepts.
The product basket does not include previous expenditures such as direct taxes, social security, and medical insurance and is an essential measure of inflation.
3. Gross Domestic Product
GDP is the sum of all goods and services produced and consumed in Switzerland. GDP is calculated, including households, businesses, governments, and net foreign purchases (export-income).
These indicators are used to determine the current location of the Swiss business cycle. For example, high growth rates are often considered inflation, and low growth suggests a recession or sluggish economic situation.
4. Balance of payments
The balance of payments is a systematic breakdown of all economic transactions conducted with other countries. The current account is the trade balance plus the service balance.
Switzerland has always maintained a sound current account, so the international balance of payments is an essential indicator for Swiss franc traders. Favourable or unfavourable changes in the current account result in significant changes in the exchange rate.
5. Production Index (Industrial Production)
The Industrial Index is a measure of changes in quarterly industrial output (or actual production by producers).
6. Retail Sales
Retail sales in Switzerland are announced every month after 40 days of the month. This is an important indicator of consumer spending and is not seasonally adjusted.