Intervention and return of risk

The SNB definitely did the right thing by going all-in – pegging the franc at 1.20 to the euro – if engineering long-term swissie weakness was the intent. In an instant, the currency changed from free-floating to quasi-fixed, from the safe-haven citadel to one dependant on the euro’s fluctuations. As if to be sure, the intervention coincided with Europe’s banking and debt nightmare driving down the euro, ensuring franc depreciation, even as precedents suggest otherwise.
Similar SNB adventures in the ‘70s stabalised the franc against the weaker mark, but left a lingering inflation hangover. In ’10, failed interventions cost the SNB a good CHF2.1 billion, inviting severe political backlash. Yet authorities were driven right against the wall as the franc had surged by a third since Lehman went belly up in the fall of ’08, triggering the safe-haven rush. Failure to act risked losing heavy machinery and pharmaceutical export markets to euro-priced German counterparts, threatening to send the export-dependant Swiss economy tumbling into recession.
Yet despite the 8.7 per cent franc nosedive against the euro that destroyed oblivious longs in minutes, buying EURCHF in the present environment makes about as much sense as shorting gold for seemingly obvious reasons. One, while the SNB will support the peg in the immediate term, it is practically impossible to guarantee long term euro purchases. Sooner or later, its resolve will be tested. Last week’s USDCHF climb from 0.78 to 0.88 masks the fact that it is naïve to expect a franc floor with no risks attached to it.
Two, If continued US and Euro weakness when Asia is slowing pushes traders to question SNB’s tenacity, the peg risks being compromised, triggering another 10 per cent move in the swissie in the opposite decision.
Three, the international financial system’s appetite for interventions is being tested. When the US is stage-managing its interest rates in an unprecedented manner, Japain is intervening in its currency and debt markets, China is holding artificial forex and interest rates and Brazil and Russia are doing more or less the same, SNB’s move sets the stage for irrational currency wars when central banks push for rate cuts in an unsustainable spiral.
Four, the intervention is euro-negative. In the extreme case of providing a ten per cent plus bid to the dollar versus euro, it threatens eroding US growth at its most crucial post-QE2 moment. It seriously wrongfoots the fed across the Atlantic, practically ensuring further stimulus as unemployment is stuck at 9.1 per cent with the economy stagnating. Bernanke must be one of the least pleased people in the financial world.
Interestingly, the announcement did not ignite risk appetite on the lines of last year’s Jackson Hole conference, where Bernanke hinted at the second quantitative easing program. The risk-on environment was finally prompted by Obama’s address to Congress, promising targeted fiscal expansion to bolster infrastructure, boost employment and economic multiplier, in addition to the tax-the-rich dogma to reduce fiscal shortfalls. The dollar is strong at least till the initiative runs into Republicans in Congress, notorious for disliking taxes for rich far more than double dip recession.
As renewed dollar strength drives downs tocks and checks gold’s relentless rise, markets seem to revert to the ’08 playbook, with strong downward pressure on commodities like crude. So even as the greenback remains shy of guaranteeing sure safety in a world running out of safe havens, it is the best short term trading player, especially for punters fleeing equities and commodities.
Europe’s sick single currency, meanwhile, edges ever closer to death as the ECB is forced to keep rates steady, shedding its Bundesbank paranoia with inflation. Speculation of a rate cut at the next meeting made the euro
lose the most against the dollar in a year amid record Greek bond yields and a deepening debt crisis. As the euro-dollar collapse intensifies, even the only real safe-haven left – gold – risks being liquidated.