After the SNB’s surprise decision to scrap its 1.20 EURCHF peg, this pair is trying to find its new equilibrium around 1.0500

The calm after the storm. After the SNB’s surprise decision to scrap its 1.20 EURCHF peg, this pair is trying to find its new equilibrium  around 1.0500, but it has come after a turbulent day when EURCHF fell to as low as 0.8517 at one stage.

If EURCHF does settle somewhere around 1.05 – 1.10 zone then Swiss exporters and those that hold CHF-denominated debt need to get used to a new normal where the Swissie is significantly higher than where they may have thought it would be at the start of this year.

Should we stockpile chocolate and watches?
Interestingly, as the Swissie has tried to claw back some earlier losses, the selling pressure on Swiss stocks has been pretty relentless today. The Swiss stock index has fallen nearly 13% as we approach the last hour of trading in London. Some of the big losers include the chocolate maker Lindt & Sprungli. The Lindt chocolate ball was ubiquitous in my house over the Christmas season, so should I rush to Canary Wharf’s Waitrose and stock pile? The answer is probably yes, as the US and Europe make up 85% of Lindt sales, and a stronger CHF could force the retailer to put up its EUR, GBP and USD prices to protect its profits. The CEO of watch manufacturer Swatch said that words failed him, calling today’s actions from the SNB a tsunami for the entire country.

So why did the SNB do it?

Probably to get ahead of a potential ECB QE announcement at its meeting next week. This decision makes ECB QE extremely likely, and it could be larger than the EUR 500 bn that market seems to think that the ECB will announce (see more here)

The SNB’s big EUR problem

The problem for the SNB is that its EURCHF peg was weighing heavily on its balance sheet. Since implementing the peg in August 2011, the SNB’s FX reserves have more than doubled, rising from CHF 200bn to EUR 500bn. Nearly half of these reserves are denominated in EUR. So, the SNB is long an asset that is losing value. The reason to say enough (eur) is enough right now, could be that the SNB thinks that the EUR may drift even lower in the coming months and it needs to divest as much of its EUR holdings as possible. Thus, today’s decision is not a vote of confidence in the future strength of the single currency.

Today’s decision may actually be self-fulfilling for the SNB. In order to maintain its peg it had to purchase a lot of EUR, by abandoning the peg, the EUR has lost one of its buyers “of last resort”, and the SNB’s move could accelerate the EUR’s downfall making it more important for the SNB to diversify into USD, JPY and even GBP going forward (Read more HERE).

Eastern European concerns

EURUSD has not been the only collateral damage from today’s action. Eastern European currencies including the Polish zloty and Czech koruna have also been pummelled today as investors worry about CHF denominated loans in these countries. Banks and individuals who are unhedged could find that their repayments have become a lot more unaffordable from today, which could spark a wave of defaults in this already beleaguered region.

Looking forward, without the peg what other tools does the SNB have to weaken the CHF and try to ward off deflation? The first is sporadic currency intervention and negative deposit rates (it cut rates by 50 bps earlier, taking the deposit rate to -0.75%). No doubt it will also try to sell its large EUR holdings, which could leave EURUSD as the biggest casualty of today’s move.

Takeaway:

·         EURCHF is finding some stability around 1.05 after a day of wild volatility for the Swissie.

·         The Swiss stock market is still suffering as a stronger franc hits the bottom line of exporters like chocolate makers and luxury goods companies.

·         The EUR may be the biggest casualty as the SNB tries to divest some of its huge EUR holdings in the coming months.

·         The SNB’s move, coming as it does ahead of next week’s ECB meeting, is a big no confidence vote in the future value of the EUR.

·         Expect sporadic intervention in the CHF by the SNB if it needs to weaken the Swissie in the coming months.