Talking Points
- DollarFinds Limited Haven Status after Swiss Central Bank Surprise
- Swiss Franc Surges after SNB Surrenders EUR/CHF Floor
- Euro Loses a Buyer, Attention Turns to the ECB Next Week
Dollar Finds Limited Haven Status after Swiss Central Bank Surprise
The Forex market suffered perhaps its biggest shock in decades, but the Dollar drew conspicuously limited safe haven flow. On the news that the Swiss National Bank (SNB) had surrendered its efforts to maintain a cap on its currency versus the Euro, European currencies exploded in activity. In turn, short-term (one-week) volatility in the FX market surged by approximately 35 percent and continued to swell through Asia trading Friday morning to hit levels not seen in three years (14.9 percent). Yet, as extraordinary as the market activity was, the favored currency for liquidity would see limited appeal. Though the Dollar generated gains against the Euro and Pound, its performance elsewhere was either mixed or negative. The fear didn’t fully ripple out to the capital markets either.
The S&P 500 took a tumble and eventually closed below 2,000 – the floor of a two-year rising trend channel – but immediate follow through was limited through. However, as robust as markets seem in the immediate wake of the ‘black swan’ event, the risk implications run deeper. With the proliferation of capital and real market leverage, the reach for yield in risky assets and the dependency in low volatility; this is a serious crack in the façade of confidence. Much of the market’s exposure is either explicitly or implicitly reliant on assurance crafted by central banks accommodation. Seeing a failure of this magnitude shows the policy authorities are not infallible, that conflicting monetary policy (some would say ‘currency wars’) adds new troubles and reminds that the Fed is rolling back its own pledge as it moves towards normalization. Top event risk for Friday’s session is December CPI, but markets will remain preoccupied with concerns of ‘risk’ and the Fed’s meet January 28.
Swiss Franc Surges after SNB Surrenders EUR/CHF Floor
The Swiss National Bank did the unspeakable for a major central bank: it triggered extreme volatility in the currency market. Maintaining stability in exchange rates and domestic financial markets is a key role for policy authorities, but the SNB did little to blunt the pain. In an unexpected announcement, the bank announced it was abandoning its three-year policy of holding up a floor on EUR/CHF at 1.2000 and that it was lowering its interest rate to -75 percent (a target range of -1.25 and -0.25 percent). The announcement was a surprise, the means for which it was done was a shock. There are few good ways to abandon a key policy such as this, but communication is exceptionally important. Rather than back off its commitment to the policy or take small steps to dull its impact, SNB Vice Chairman stated as recently as Tuesday that the floor was a key tenet of their policy and the group summarily announced the change.
The reasoning behind this uncharacteristic move by a major central bank renowned for its steadfastness may signal another fold in the financial system. Against a future of buying a Euro that would continue to tumble under an expansive ECB stimulus program while only keeping the rate unchanged, the risks seemed large. However, they were not new nor unknown. This may be intended to serve as a warning on the consequences of competitive monetary policy or a necessary response to an impending threat like ECB QE.
Euro Loses a Buyer, Attention Turns to the ECB Next Week
From the SNB’s move, many traders are drawing the conclusion that Swiss officials are either very concerned over – or perhaps have knowledge of – a much more substantial stimulus program coming from the ECB in the near future. Given the public debate over the merits of a full-scale QE program and the policy meeting scheduled for next Thursday, concerns are clear. Expectations for a move next week are now likely very high, and one of the few steady bidders on the Euro (the SNB) is gone. Expect a very volatile week for the Euro next week.
Japanese Yen Crosses Drop on Central Bank Backdrop
Yen crosses dropped across the board Thursday as a swell in FX volatility unnerved longs that are dependent on an anemic yield and quiet market conditions. While other asset classes and benchmarks (S&P 500 for example) may be a few steps out from the epicenter, the sensitivity to volatility, central bank policy and the unknown is very high for these carry trades.
Pound a Haven for Europeans but Liability Elsewhere
There was a distinct divergence in performance for the Pound against European currencies and non-European currencies. For Europe, the Pound is a considerable haven to Swiss volatility and Euro-area financial/economic uncertainty. In contrast to Asian and American currencies, it shares the stain of risk from its neighbors. EUR/GBP and GBP/USD will act as good, dual divining rods of the Pound’s performance.
Emerging Markets: Russia to Open Wealth Fund to Reinforce Ruble
Emerging Market volatility jumped over six percent Thursday – far less than the broader FX market’s own activity levels. With the MSCI EM ETF essentially unchanged Thursday, we have another perimeter measure of risk from central bank policy fallout. Meanwhile, local effort to offset the Dollar’s march higher (and the Ruble’s drop) saw Russia announce it would tap its $88 billion Reserve Fund to fight the one-direction move.
Gold Jumps to Four-Month High as Currency Market Shudders
At the sound of a ‘currency shock’, gold comes calling. The precious metal found one of its strongest fundamental bids since the global central bank collective was in the early phases of its unconventional policy appetite. It is worth noting that the dramatic volatility from the Franc generated far more bullish traction than the BoJ’s stimulus efforts. Instability is the ultimate spark for this FX alternative.