How Much Longer Can The 1.200 EURCHF Floor Last?
- Strengthening of the dollar puts pressure on the CHF
- The EUR continues to weaken
- Speculation of the “Save our Swiss gold” referendum turn out
- Limited options for the SNB
Since September of 2011 the Swiss National Bank has maintained a 1.200 floor of the Swiss Franc against the EUR. The bank expressed its view that the Swiss franc was grossly overvalued and its fears that the high valuation was indeed a serious risk to the Swiss economy because of the deflationary pressures it was causing. Lowering the Francs valuation was on its list of primary concerns.
The 1.200 Floor
Switzerland has been fighting off deflationary pressures despite having or of the lowest libor rates. During and immediately after the 2008-2009 global crisis risk aversion was at an all-time high. Capital was a flowing into the Swiss economy en mass because of its safe haven status. This saw demand for the Franc increase dramatically. Between 2008 and 2011 the EURCHF and USD CHF both shed off 4000 pips. In 2011, the Euro was exchanging at a price of about 1.400 against the dollar. This means that the weight of the Euro in the EURCHF cross was quite strong that is: the EURO was stronger at the time. So at the time of creating the 1.200 floor, the SNB targeted the Euro whilst it was quite strong.
The USDCHF in September 2011 was pricing at around 0.7100. This was both a reflection of a weaker dollar and a suddenly attractive Swiss Franc. In 2008 the Fed began its first quantitative easing (QE) program. In November of 2011 the Second round of QE was announced. By this time, there was a massive selloff of the dollar and the USDCHF reached its trough. The uncertainty that the markets perceived led the market to buy large amounts of the Swiss Franc and the Euro but more of the CHF.
On September of 2011 under these conditions, the SNB announced its 1.200 ERUCHF floor and begun relentlessly enforcing it. The market became convinced of its resolve and capability to maintain the floor. Since then, the EURCHF has been mostly untradeable for the majority of the market speculators because of its very negligible volatility.
Current Market conditions
Today the current market and political conditions are remarkably different from those of the post crisis level. The situation is such that we cannot ignore that the possibility of breaking the 1.200 Floor is more likely than ever.
Traditionally the SNB has always had a large reserve of gold. Its strength and capacity to enforce the 1.2 floor has never seriously been in question. On the other hand today SNB only has 7% of balance sheet in gold this is a dramatic fall of the 30% it held in 2008.
In November, the Swiss electorate will vote on the “save our Swiss Gold”” referendum. This referendum if it goes through will require the SNB to acquire higher quantities of gold up to 20% of its balance sheet and be unable to sell it. This will significantly cripple the banks capability to maneuver during emergencies and severely stress the EURCHF floor. At the same time the CHF will become more attractive to hold and hence exert downward pressure on the pair at a time when the the bank is incapable of using up its gold to buy up Euros as it has previously done.
A Weaker EUR
This situation comes in the backdrop of a weaker Euro which is putting massive downward pressure on the EURCHF. A Stronger USD out of the rebound of the US economy also puts bearish pressure on the Euro thus compounding this effect. This scenario means that the downward pressure on the 1.200 is only going to increase with the strengthening dollar and a weakening Euro.
Putting it all together
A 1.200 floor can only be maintained if the SNB has enough room to maneuver, so unless the SNB decides to print more Francs to support its gold purchases and the 1.200 floor, a referendum result in the affirmative or just pure speculation prior, will see us break the 1.200 floor. The 30th November will be the deciding factor.
An increasingly strong US economy is exerting pressure on the EURCHF floor. This is being compounded by a Weaker Euro outlook making the likelihood of a 1.200 break below ever more likely. Under these conditions a great strategy is to enter a short position on the EURCHF several pips below the floor should the referendum go through we anticipate to see huge price gaps if the pair tumbles down.
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