Best of the Week
Most Popular
1. US Housing Market House Prices Bull Market Trend Current State - Nadeem_Walayat
2.Gold and Silver End of Week Technical, CoT and Fundamental Status - Gary_Tanashian
3.Stock Market Dow Trend Forecast - April Update - Nadeem_Walayat
4.When Will the Stock Market’s Rally Stop? - Troy_Bombardia
5.Russia and China Intend to Drain the West of Its Gold - MoneyMetals
6.BAIDU (BIDU) - Top 10 Artificial Intelligence Stocks Investing To Profit from AI Mega-trend - Nadeem_Walayat
7.Stop Feeding the Chinese Empire - ‘Belt and Road’ Trojan Horse - Richard_Mills
8.Stock Market US China Trade War Panic! Trend Forecast May 2019 Update - Nadeem_Walayat
9.US China Trade Impasse Threatens US Lithium, Rare Earth Imports - Richard_Mills
10.How to Invest in AI Stocks to Profit from the Machine Intelligence Mega-trend - Nadeem_Walayat
Last 7 days
The Bad News About Record-Low Unemployment - 24th June 19
Stock Market New High, but…! - 24th June 19
Formula for when the Great Stock Market Rally Ends - 24th June 19
How To Time Market Tops and Bottoms - 24th June 19
5 basic tips to help mitigate the vulnerability inherent in email communications - 24th June 19
Will Google AI Kill Us? Man vs Machine Intelligence - 24th June 19
Why are Central Banks Buying Gold and Dumping Dollars? - 23rd June 19
Financial Sector Paints A Clear Picture For Stock Market Trading Profits - 23rd June 19
What You Should Look While Choosing Online Casino - 23rd June 19
INTEL (INTC) Stock Investing to Profit From AI Machine Learning Boom - 22nd June 19
Here’s Why You Should Drive a Piece of Crap Car - 22nd June 19
How Do Stock Prices React to Fed Interest Rate Cuts? - 22nd June 19
Gold Bull Market Breaking Out! - 21st June 19
Post-FOMC Commentary: Delusions of Grandeur - 21st June 19
Gold Scores Gains as Draghi and Powel Grow Concerned - 21st June 19
Potential Upside Targets for Gold Stocks - 21st June 19
Gold Price Trend Forcast to End September 2019 - 21st June 19
The Gold (and Silver) Volcano Is Ready to Erupt - 21st June 19
Fed Leaves Rates Unchanged – Gold & Stocks Rally/Dollar Falls - 21st June 19
Silver Medium-Term Trend Analysis - 20th June 19
Gold Mining Stocks Waiting on This Chart - 20th June 19
A Key Gold Bull Market Signal - 20th June 19
Money Saving Kids Gardening Growing Giant Sunflowers Summer Fun - 20th June 19
Investing in APPLE (AAPL) to Profit From AI Machine Learning Stocks - 20th June 19
Small Cap Stocks May Lead A Market Rally - 20th June 19 -
Interest Rates Square Minus Zero - 20th June 19
Advice for Financing a Luxury Vehicle - 20th June 19
Stock Market Final Blow Off Top Just Hit… Next Week Comes the FIREWORKS - 20th June 19
US Dollar Rallies Off Support But Is This A Top Or Bottom? - 19th June 19
Most Income Investors Are Picking Up Nickels in Front of a Steamroller - 19th June 19
Is the Stock Market’s Volatility About to Spike? - 19th June 19
Facebook's Libra Crypto currency vs Bitcoin: Five Key Differences - 19th June 19
Fed May Trigger Wild Swing In Stock Index and Precious Metals - 19th June 19
How Long Do Land Rover Discovery Sport Brake Pads Last? - 19th June 19
Gold Golden 'Moment of Truth' Is Upon Us: $1,400-Plus or Not? - 18th June 19
Exceptional Times for Gold Warrant Special Attention - 18th June 19
The Stock Market Has Gone Nowhere and Volume is Low. What’s Next - 18th June 19
Silver Long-Term Trend Analysis - 18th June 19
IBM - Watson Deep Learning - AI Stocks Investing - Video - 18th June 19
Investors are Confident, Bullish and Buying Stocks, but… - 18th June 19
Gold and Silver Reversals – Impossible Not to Notice - 18th June 19
S&P 500 Stuck at 2,900, Still No Clear Direction - 17th June 19
Is Boris set to be the next Conservation leader? - 17th June 19
Clock’s Ticking on Your Chance to Profit from the Yield Curve Inversion - 17th June 19
Stock Market Rally Faltering? - 17th June 19
Johnson Vs Gove Tory Leadership Contest Grudge Match Betfair Betting - 17th June 19
Nasdaq Stock Index Prediction System Is Telling Us A Very Different Story - 17th June 19
King Dollar Rides Higher Creating Pressures On Foreign Economies - 17th June 19
Land Rover Discovery Sport Tailgate Not Working Problems Fix (70) - 17th June 19
Stock Market Outlook: is the S&P today just like 2007 or 2016? - 17th June 19

Market Oracle FREE Newsletter

Gold Price Trend Forecast Summer 2019

Switzerland Under Siege, Free Markets May Yet Save the Swiss Franc

Currencies / Credit Crisis 2010 Jul 20, 2010 - 03:47 PM GMT

By: Axel_Merk

Currencies

Best Financial Markets Analysis ArticleEfforts are underway to undermine Switzerland’s rock solid reputation as a safe haven. The alpine nation, famous for its readiness against enemies with citizens storing military assault rifles at their homes, is under attack. The attack, however, comes from one of their own, the guardian of the Swiss franc: the Swiss National Bank (SNB). In any other country, a central bank may have the power to derail the currency; in Switzerland, however, efforts to undermine the franc may be more appropriately characterized by a Don Quixotian battle by a lone warrior, a warrior armed with a license to print money.


Prices, be they for goods and services, stock prices or currencies, are best set by free markets. The euro and the Swiss franc are traditionally two highly correlated currencies; however, there are rational reasons why each currency has periods of strengths and weakness. SNB Chairman Philipp Hildebrand does not appear to see it that way; he was on a mission against “speculators” that gauged the Swiss franc to be a safer place than the euro. As his influence rose in early 2009 (his promotion from Vice President to Chairman was announced in early 2009, but did not take effect until early 2010), Switzerland began to intervene in the currency markets, apparently with the aim of pegging the Swiss franc to the euro. Below is a chart of the Swiss franc versus the euro over this time period (a rising trend reflects Swiss franc strength versus the euro); sharp moves downward tend to coincide with larger interventions to “punish” speculators:

As the Greek crisis intensified, it became ever more difficult for the SNB to achieve its goals. It appears to us that investors scared of any fallout from Greece were treated as enemy combatants for seeking refuge in the Swiss franc. It is mindboggling to brandish those diversifying from the euro to the Swiss franc as speculators. Without a doubt, the Greek tragedy made the euro appear riskier to rational investors. There’s a perception at the SNB that a strong Swiss franc versus the euro hurts Swiss exports – the SNB prefers to use the more dramatic and over-used term deflation. On the margin, that may well be true, but consider:

  • Switzerland’s strength has never been to compete on cost. Keeping a currency weak for competitive reasons is something stronger Asian countries may be in the process of relaxing because these policies may have caused inflationary pressures to build.
  • Swiss firms have extensive experience in dealing with fluctuating exchange rates, as well as a strong Swiss franc.
  • Swiss multi-nationals generally have foreign subsidiaries through which currency exposures of revenues and expenses can be more easily aligned.
  • Swiss watchmakers are complaining because of the high price of gold, not the strong Swiss franc. Indeed, a stronger Swiss franc would alleviate some of these additional cost pressures.
  • Most importantly, Swiss banks depend on the trust in the Swiss franc. It’s bad enough that Swiss bank secrecy has more holes than Swiss cheese. If the SNB were to succeed in actually weakening the Swiss franc in a meaningful way, the confidence loss in the banking industry may easily exceed the short-term benefit of boosting exports.

In early 2009, before the first interventions took place, we wondered how effective such a strategy could be. When Japanese policy makers make threats to intervene to weaken the yen, we take them very seriously; after all, the Japanese might be willing and able to destroy their currency in a possibly fruitless effort to boost their economy (see our January 2009 analysis Yen’s Kamikaze Flight Trajectory). But the Swiss? Would the SNB go all the way in their effort to weaken their currency? Our judgment has been that it is unlikely; history so far seems to prove us right. However, because of the disconnect between the talk and action, the Swiss National Bank’s policy is not fighting, but encouraging speculation. Each time the SNB intervenes to weaken the Swiss franc, it may be a gift to speculators, as they can buy the Swiss franc at a discount.

It’s not just cultural reasons why the SNB is unlikely to succeed on a “kamikaze mission”: Switzerland’s public finances are too sound to be easily wrecked by a rogue national bank. While Switzerland’s debt-to-GDP ratio is reasonably low by international standards, the country’s discipline slipped during the 1990s; during the period, the gross debt-to-GDP ratio (including federal, cantonal and communal debt) rose from 31 to 54 percent; during the same period, Ireland, Portugal, Belgium, Netherlands and Denmark all reduced their debt-to-GDP ratios (source: 2002 IMF Working Paper on Swiss Debt Brake). As Swiss debt-to-GDP ratios climbed, a movement in Switzerland was born that eventually led to a constitutional amendment that requires a balanced budget over a business cycle: the balanced budget amendment, commonly referred to as the Swiss Debt Brake, was passed in 2001 and implemented in 2003. Without going into the details of how the mechanism works, relevant for our discussion is that the will of the voters imposed fiscal discipline.

There is a very real consequence of a country living within its means: the debt market of that country is not very large. The Swiss debt market is a rather quiet one: investors often buy debt at auctions, then hold them to maturity; since the onset of the financial crisis, Swiss T-Bills have often been auctioned off at face value, meaning buyers get 0% interest for lending their money (or negative interest after commission). In such an environment, quantitative easing or credit easing is more easily said than done: the SNB cannot print money to buy Swiss debt on a grand scale as there are simply not enough sellers around. However, never underestimate the creativity of central bankers: if it is not realistic to buy Swiss franc denominated debt, why not use the Swiss central bank’s balance sheet, i.e. print money, to buy euro denominated debt? An intervention strategy was initiated that allowed Swiss-style quantitative easing, currency intervention, all in the name of fighting deflation and speculation.

Except, that the SNB gamble has not worked. As a result of buying euro, well, the Swiss National Bank’s balance sheet, now holds euro – lots of it; indeed, the SNB now holds significantly more euro than Swiss francs. The SNB may be running out of ammunition as it has a dwindling supply of Swiss francs; theoretically, that should not stop a central bank: indeed, the SNB can create Swiss francs out of thin air (a mere keyboard entry into its accounts) to buy euros. However, politically, it will be an uphill battle for the SNB to claim it is pursuing its Swiss mandate should they almost exclusively hold euros.

Unlike other central banks, the SNB is a publicly traded corporation with shareholders; the Swiss federal government is not a shareholder, but the cantons are; theoretically, anyone can buy shares, subject to availability. While the SNB’s corporate charter has certain special features, most importantly the power to print money, heavy foreign currency exposure may create wide swings in earnings; notably, the SNB may report losses in the billions as a result of its currency interventions (that may turn into substantial profits if and when the euro recovers). While even a negative net worth is mostly a technicality for a central bank, most damaging about such losses is the wrath of the public that may scrutinize the bank in more detail. Swiss citizens have shown that they can impose discipline on fiscal policy; they may very well rein in a SNB not fulfilling the will of the people.

So what is an investor, rather than speculator, to do? In a March 2009 op-ed published in the Financial Times, we cautioned Switzerland may cede its safe haven status to Norway. While we gauged at the time that the SNB’s policies would not lead to its desired long-term devaluation of the Swiss franc, we did anticipate a more negative investment climate for Switzerland as a result of the more activist central bank. We are on record for shifting substantial assets from Switzerland to Norway from early 2009. We started to reduce that position as the SNB’s position became increasingly untenable. Below is a chart of the Swiss franc versus the Norwegian krone (a downward trend reflects Swiss franc weakness relative to the Norwegian krone):

In our assessment, the biggest problem with central bank currency intervention is not whether it is effective or not, but that investors start focusing on possible intervention rather than underlying fundamentals. While this may not be the last fight the SNB puts up, it appears the markets have little confidence the SNB can implement its threats. Indeed, the SNB seems to have looked for a graceful exit to its policies by declaring the threat of inflation over, for the time being. Of course, that announcement spurred a speculative rally, giving the green light to buy Swiss francs. That in turn caused the SNB to state that they may intervene yet again; we would rather have the SNB focus on sound monetary policy than on a cat and mouse game with speculators they are bound to lose.

As policy makers are throwing around billions, if not trillions of dollars, in desperate attempts to enforce their objectives, rational capital allocation suffers, planting seeds for new distortions and bubbles.

In the coming days, the stress test on the eurozone banks will be published; don’t miss our analysis by signing up to our newsletter; we will also give an update on our views in our webinar on July 29, 2010 – please register.

We manage the Merk Absolute Return Currency Fund, the Merk Asian Currency Fund, and the Merk Hard Currency Fund; transparent no-load currency mutual funds that do not typically employ leverage. This analysis is a preview of our annual letter to investors; to learn more about the Funds, please visit www.merkfunds.com.

By Axel Merk

Manager of the Merk Hard, Asian and Absolute Return Currency Funds, www.merkfunds.com

Axel Merk, President & CIO of Merk Investments, LLC, is an expert on hard money, macro trends and international investing. He is considered an authority on currencies. Axel Merk wrote the book on Sustainable Wealth; order your copy today.

The Merk Absolute Return Currency Fund seeks to generate positive absolute returns by investing in currencies. The Fund is a pure-play on currencies, aiming to profit regardless of the direction of the U.S. dollar or traditional asset classes.

The Merk Asian Currency Fund seeks to profit from a rise in Asian currencies versus the U.S. dollar. The Fund typically invests in a basket of Asian currencies that may include, but are not limited to, the currencies of China, Hong Kong, Japan, India, Indonesia, Malaysia, the Philippines, Singapore, South Korea, Taiwan and Thailand.

The Merk Hard Currency Fund seeks to profit from a rise in hard currencies versus the U.S. dollar. Hard currencies are currencies backed by sound monetary policy; sound monetary policy focuses on price stability.

The Funds may be appropriate for you if you are pursuing a long-term goal with a currency component to your portfolio; are willing to tolerate the risks associated with investments in foreign currencies; or are looking for a way to potentially mitigate downside risk in or profit from a secular bear market. For more information on the Funds and to download a prospectus, please visit www.merkfunds.com.

Investors should consider the investment objectives, risks and charges and expenses of the Merk Funds carefully before investing. This and other information is in the prospectus, a copy of which may be obtained by visiting the Funds' website at www.merkfunds.com or calling 866-MERK FUND. Please read the prospectus carefully before you invest.

The Funds primarily invest in foreign currencies and as such, changes in currency exchange rates will affect the value of what the Funds own and the price of the Funds' shares. Investing in foreign instruments bears a greater risk than investing in domestic instruments for reasons such as volatility of currency exchange rates and, in some cases, limited geographic focus, political and economic instability, and relatively illiquid markets. The Funds are subject to interest rate risk which is the risk that debt securities in the Funds' portfolio will decline in value because of increases in market interest rates. The Funds may also invest in derivative securities which can be volatile and involve various types and degrees of risk. As a non-diversified fund, the Merk Hard Currency Fund will be subject to more investment risk and potential for volatility than a diversified fund because its portfolio may, at times, focus on a limited number of issuers. For a more complete discussion of these and other Fund risks please refer to the Funds' prospectuses.

This report was prepared by Merk Investments LLC, and reflects the current opinion of the authors. It is based upon sources and data believed to be accurate and reliable. Opinions and forward-looking statements expressed are subject to change without notice. This information does not constitute investment advice. Foreside Fund Services, LLC, distributor.

Axel Merk Archive

© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Comments

B
22 Jul 10, 02:46
Switzerland - Besieged by What?

Axel: What exactly is "rock solid" Switzerland besieged by if not its own stupidity? Compared to UBS, Herr Hildebrand is a small danger indeed. What exactly does one get when one buys a swiss franc? An option to backstop a bank that has been at the centre of every lending excess? I think the swiss should focus on these reckless institutions rather than besieging the American capital markets with claims of sainthood and a raft of gold penny stock promotions - they really are giving the Nigerians some serious competition in the scam department.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

6 Critical Money Making Rules