Swiss franc remains firm if crisis goes on
It’s not the Swiss franc’s strength that made it so attractive amongst asset managers and investors, but the weakness and vulnerability of other currencies and countries. As long as Europe, the US or Japan don’t find a visible and sustainable way out of the crisis, the Swiss franc stays the number one safe-haven currency, László Szabó, Chairman of the Board of fund management company Concorde Befektetési Alapkezelő Zrt says.
Q: The Swiss franc is traditionally regarded as a safe haven for investors, but nowadays it seems it is the last stand on the currency market. What made the Swiss franc so attractive, and how far could the frenzy get?
A: Switzerland has become a safe haven for multiple reasons. Over the centuries, the neutrality of the country and the legendary Swiss bank secrecy has attracted clients from all over the world, and the safety and anonymity of bank vaults drew in a great number of assets. Simultaneously, a well-established wealth management sector grew into being, and these factors altogether combined into a very serious ability to attract capital. Regarding the current situation, Switzerland has a huge advantage. The country is linked to Europe in many ways culturally as well as economically, but its economic condition is far better than that of its neighbors. While Swiss GDP decreased along with most European countries’ in 2009, Switzerland managed to get back on track with a much lower unemployment rate and, more importantly, without the excessive increase of debt ratios. While the levels of fiscal stimulus and indebtedness reached unbelievable heights in Europe, Switzerland has kept its budget in balance. It’s like a bicycle race where one can keep up the pace, while everybody else around them is doping. Taking a look at the macroeconomic indicators, it is clear that Switzerland’s economy is not particularly strong, but it is much stronger than those of other European countries. Unemployment in the eurozone has reached unseen levels despite the efforts of politicians. Budget deficits of member states are decreasing but still significant, and the banking system is very vulnerable. On top of that, the fiscal policy of member states is in the hands of their own national governments, making efforts towards unified crisis management very difficult. The situation in the United Kingdom is not better, either. The central bank is printing money to directly finance the budget, so inflation has gone up, unemployment is high, economic growth is lagging, and interest rates are already around 0%. That sounds like a worst-case scenario for a currency. Japan has been dead for more than 10 years now; it has just come back as a zombie. The government spends 150% of its income, and the public debt is over 200% of GDP. What is worse is that no one knows how Japan will overcome its problems given the huge demographic burden of an aging society. The United States keeps its growth rate at around 2 -2.5% at the cost of a $1-1.5 trillion budget deficit a year. Real estate prices have been falling for four years, and the trend is not changing, even though experts forecast a shift every now and then. Interest rates are also at 0%. I learned at university that if a country prints money to fund the budget, and the interest rate is at 0%, its currency would fail in the short-term. However, as I just mentioned, other great economies are facing the same problems, so there is no real alternative currency to change to. On the other hand, Switzerland, with its comforting and stable economic indicators, really does look like a safe haven.
Q: But short-term interest rates in Switzerland tend towards 0% too.
A: But for an absolutely different reason. In the aforementioned countries, interest rate levels are at 0% to stimulate investments, and through that, the economy. However, in Switzerland, the 0% interest rate was introduced to slow down the incoming capital flow, driven by investors fleeing other currencies.
Q: In less than a year, the euro-Swiss franc exchange rate went from 1.40 to almost parity, forcing the Swiss National Bank (SNB) to intervene and attempt to hold the rate at 1.20. How long can this position be held?
A: As long as the banking crisis in the eurozone continues, the Swiss franc remains a safe haven. However, the pressure on the exchange rate is getting higher with capital still flowing into the country. Actually, the 1.20 cap on the exchange rate is like a dam closing the end of a valley while water is still flowing into the reservoir behind. The pressure is growing, and no one knows how long the dam will hold. Water will either be let out through the valves or it will break through the wall and flood the countryside. If the latter happens, the EUR/CHF exchange rate will reach 1.10 in a matter of hours. I don’t think it’s going to happen, but it can’t be ruled out. Personally, I can imagine a scenario where the Swiss government tries to slow down the massive inflow of capital with administrative tools. With the interest rate already being at 0%, special taxes could be introduced on an investment, which has the same effect as negative interest rates, or foreign capital inflow could be limited.
Q: What would happen if the European banking system collapsed?
A: If we look at the ‘Armageddon’ scenario where the European banking system fails, it is obvious that the last link in the lending process will have to take the loss. In the case of Swiss franc transactions, Swiss banks are at the end of the line, which means they would be in dire straits. But I don’t think that the European Central Bank would let the whole system collapse. Small, isolated cases of bankruptcy could turn up, causing some losses to Swiss financial institutions as well, but I can’t imagine a wide-scale collapse. And in this case, the Swiss franc will stay as strong as it is now.
Q: How would a collapse of the EUR/CHF exchange rate affect Hungary?
A: Unfortunately, our room for maneuver is very limited. The government introduced the currency peg, where Hungarians with foreign currency debts can pay their monthly repayments at a rate of 180 forints to the Swiss franc, 250 forints to the euro, and 2 forints to the yen for five years. The difference will be kept in a different account, and no interest surcharge is counted on the “backlog”. If the exchange rate of the Swiss franc really jumps, the number of application for the currency peg will increase.
Q: How could companies dodge the effects of a possible exchange rate hike?
A: The stabilized EUR/CHF exchange rate cap at 1.20 has a positive side effect: options have become very cheap. To avoid a rate hike, put option contracts can be bought that work like guarantees to secure the rate through the price of the option.
László Szabó (42) graduated from Révai Miklós High School in Győr, and earned a degree at the Budapest University of Economics (now Corvinus University), majoring in finance and corporate ratings. In 1993 he joined Concorde, initially working as an advisor on privatization deals, and then became the company’s leading analyst. He participated in the founding of investment management company Concorde Befektetési Alapkezelő Zrt. as a 25% owner. After ten years leading the company, he retired from operational work in 2006 and kept the management of one investment fund only. After a few years of intensive child caring and learning kung fu, he once again became involved in asset management activities from the beginning of 2011. At the end of 2011, the Platinum Pi Fund managed by Szabó proved to have the highest yield in Hungary on a five-year basis.
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