The recent move by the Swiss National Bank (SNB) to remove the peg between the Swiss Franc and the Euro has caused lots of turmoil (see here and here) in an already volatile environment. The magnitude of the event was a pure surprise to me. Yes, this is Switzerland, and this is the Swiss Franc, but, from a mere technical point of view, after the peg in September 2011, the Franc should not have been treated any more as a major currency. Consider, which currencies are pegged? If China removes the peg between the Yuan and the US dollar, would it send the same shock waves through the world markets? I doubt it.
It seems, however, that despite the peg, there were substantial speculative positions in the Swiss Franc. The shorts of course got hit hard and suffered extreme losses. So did their brokers. To me that’s nothing more but a failed risk management. The collateral damage were all the hedgers and, of course, the Swiss people. While the former can do little, I sincerely hope the latter group somehow manages to return back the SNB to a more rational behaviour.
When I started trading currency futures, I had the Swiss Franc in my “basket” of futures. However, after some analysis of its behaviour and its correlation to the Euro (caused by the peg) I removed it from my trading (although I continued to monitor it). To me it was simple – why would I trade a currency which for all practical purposes is the Euro but has less liquidity and more risks?
Now the peg is gone, so should I add the Franc again? Let’s look at a chart.
A picture is worth a thousand words. This is the three month rolling correlation between the Euro and the Swiss Franc. It’s pretty clear when the peg was established (around the biggest dip on the chart). It also clearly illustrates that for all practical trading purposes the Euro could have been used instead of the Swiss Franc for the entire period except the 2011 crisis. The correlation has been above 0.8 (the horizontal line) for most of the last six years.
Now that’s important. To me it casts serious doubts over the move to peg the currency, which SNB did at the peak of the 2011 crisis. That crisis was short lived, and looking at the long term chart, one reasonable outcome might have been that the Franc would have gone back closer to its pre-crisis correlation level with the Euro.
These, of course, are just speculations, however, after the recent “un peg”, it’s clear that SNB is unpredictable, and likely, irrational. Hence, its currency should be treated with caution, more like an emerging market currency, like the Mexican Peso. 😉 Hence, my conclusion is to add back the Franc, but for no more than a couple of years. My feeling is that it’s unlikely to see another hysterical fit from the SNB within a year or two, but who knows, thus, small positions. I am not even convinced it’s worth bothering …
Finally, a funny paragraph from Wikipedia: On 6 September 2011 the SNB set a minimum exchange rate of 1.20 francs to the euro (capping franc’s appreciation) saying “the value of the franc is a threat to the economy”, and that it was “prepared to buy foreign currency in unlimited quantities.” In response to the announcement the franc fell against the euro, to 1.22 francs from 1.12 francs and lost 9% against the U.S. dollar within fifteen minutes. The intervention stunned currency traders since the franc had long been regarded as a safe haven.
Did you notice, the markets were stunned then. And were stunned even more now. Do we ever learn?