House Currency View

Uncertainty continues to plague currency markets this week as sovereign debt risk comes to the fore. The Euro continues to dominate headlines as the embattled 16 nation currency remains under pressure as markets unravel the potential implications of sovereign default in Greece. The European Union has failed to provide a concise action plan on how it will resolve imminent sovereign debt default in the monetary union. Greece appears to be the only “problem child”. However Italy, Portugal and Spain could soon pose similar headaches for the union if a holistic approach is not implemented. Commodity based currencies have lost their lustre this year as the dollar continues to appreciate sending commodity prices crashing. The Aussie and the Canadian dollar are testament to these moves as they have depreciated 6.7% and 5.2% respectively against the dollar since mid January of this year. Will the dollar maintain its fine run against the major currencies or will it be halted in its path sooner rather than later?

This week we shift our attention to the Swiss Franc, a currency widely ignored by traders however provides traders with a wide rang of opportunities if the currency falls out of the Swiss National Banks (SNB) trading range. The SNB has in the past highlighted that it would “actively” participate in the foreign exchange market if the Swiss Franc appreciates against the dollar or the Euro. Last year the SNB “actively” participated in the foreign exchange market by devaluing their national currency. The SNB has drawn a line in the sand at 1.50 to the Euro and 1.025 to the greenback, the central bank has highlighted that it would like to see a weaker Franc. In the last nine months the SNB intervened twice and made strong threats in December of another possible intervention. The central bank remains adamant that the Swiss Franc should be managed within a particular range, graph 1 below shows how the SNB participated in the market last year. The first two green arrows show the moves made by the Franc against the Euro after the SNB intervened in the foreign exchange market. The third arrow shows a potential move that the Franc could make if the SNB decides to intervene.

Graph1

The following factors provide the basis upon which the SNB would take action in the foreign exchange markets:

Tight Monetary Policy

The old guard at the SNB changed at the beginning of the year as Philipp Hildebrand replaced Jean-Pierre Roth as the Chairman of the governing board. The new chairman has provided no indications on how the SNB will alter the implementation of their monetary policy. The central bank remains tight lipped on policy and only releases information to the public at predefined monetary policy committee announcements. The SNB maintains that quantitative easing is not sustainable going forward, as focus in the near term future should be primarily at monetary policy aggregates as opposed to fiscal policy

Threats of Deflation

The central bank reiterated in recent weeks that raising interest rates would be inappropriate as economic recovery remains fragile. Chairman Hildebrand said: “our policy is clear we will resolutely prevent an excess appreciation as long as there are deflationary risks”. The SNB like the South African Reserve Bank “practices” an inflation targeting regime, and aims to maintain inflation in Switzerland between 1 to 1.5%. Year on Year inflation for the period ending 31 January 2009 is expected to increase to 0.8% up from 0.3%. However, month on month inflation continues to decline and is expected to decline to 0.4% from 0.2%.

Credit downgrades of European states and European banks have seen the Franc appreciating against the Euro as traders continue to perceive the Franc as a “safe haven” currency. Short term interest rates remain at zero in Switzerland as seen by the central banks latest Treasury bill auction results, where a total of 197 million three month bills were allocated at a yield of zero.

Unemployment

Job losses are at their highest levels in Switzerland, with January unemployment figures due for release on 25^th February and they, are likely to cause continued volatility in the Swiss Franc. The central government maintains that unemployment levels are out of control and they would prefer a stable labour market.

Policy Uncertainty

The direction that the monetary authorities will take in the short term remains vague. Uncertainty generally increases speculative behaviour in the currency markets as traders “test” policy makers. It is certain that the SNB will maintain interest rates at zero in the short to medium term and asset repurchases will be limited. What remains vague is when the SNB will take action in the currency markets, hence providing opportunities for the currency trader.

The Swiss Franc is currently trading in a bearish trend channel as shown below in Graph 2. The currency has touched the lower end of this channel this year however it has failed to break through this level. We expect the Franc to bounce up from the bottom of the channel as the SNB intervenes to depreciate the Swiss Franc

Graph 2

A short term strategy traders should consider shorting the Franc (Long USDCHF March contract). The currency is likely to face resistance at 1.06 and traders should short the Swiss Franc at current levels with 1.084 as a take profit target. If the currency breaks through the 1.06 level further resistance will be found at 1.050 which we have set as our stop loss level .

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SUMMARY TABLE

Currency Strategy Entry Stop-Loss Take Profit

USDCHF Buy 1..06 1.05 1.084

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