SNB and QE Implications

The Federal Reserve and the Bank of England have not purchased assets since Q1. The ECB has purchased covered bonds and sovereign bonds in the secondary market. The BOJ has continued its monthly purchases of JGBs in its rinban operations. The Swiss National Bank was arguably the most aggressive and it continued to buy foreign bonds and sell the Swiss franc through the middle of June.

Speculation that the Federal Reserve may resume its asset purchases as early as next week has been a factor that has been cited as a weight on the dollar. But there does not appear to be a good correlation between QE (or the extraordinary monetary policy that in the market's vernacular has been lumped together as QE) and currency movement.

The SNB quadrupled the size of its balance sheet and it is difficult to see how this has depressed the Swiss franc. In the year through June 17, when the SNB signalled it was going to stop intervening, the Swiss franc appreciated a bit more than 6.5% against the euro.

As we noted at the when the SNB made its announcement, it was only when the BOJ stopped intervening in the late 2003-early 2004 operation that the yen began weakening. The same basic pattern seemed to emerge in the Swiss franc. It is not as clean of a picture as the yen as the Swiss franc initially continued to strengthen. In fact in the two weeks following the end of the SNB's QE ended, the euro lost another 5.25% against the Swiss franc. However, since then (say July 1) the euro has rallied 6.1% against the franc. Now the euro is trading above where it was against the Swiss franc when QE ended.

It is not clear that the QE worked, given the fact that the Swiss franc strengthened. The only case that the defenders of the SNB can muster is that the Swiss franc would have been even stronger if it weren't for the QE. It is difficult to argue against the counter-factuals in general. This is possible, but we have no way to know. The point is that a quadrupling of the SNB's balance sheet did not spur the kind of depreciation that many anticipate if the Fed were to renew its asset purchases.

The recent inflation data suggests that the risk of deflation persists even as the SNB revised up its growth forecast for this year to 2%, which is roughly twice what the euro zone is expected to grow this year.

Another observation based on the Swiss and Japanese experience is that the currency appreciation may impact the inflation/deflation story, but corporations with extensive foreign sales have most recently reported favorable earnings and guidance. In Japan, we have noted that Ricoh, Sony and Toyota meet this generalization. In Switzerland, the same applies to a company like Swatch. It exports roughly 80% of its output and has easily outperformed the overall Swiss market and the Dow Jones Stoxx 50 and 600.

At least one Swiss bank is predicting that the SNB will tighten monetary policy next month. The SNB meets on Sept 16. There is much data to be seen before then, including another CPI and retail sales report, but a rate hike then does not appear to be the most likely scenario.

Indeed, to the contrary, the near-term risk is that the recovery of the euro against the Swiss franc is running out of steam. The euro has rallied from SF1.3074 to SF1.3876 today, which is the high since the SNB stopping intervening. It is struggling now. A convincing move below SF1.3730 today would reinforce this view. That could signal near-term move toward SF1.3580-SF1.3600.