Saxo Bank Mar. 13 2009 : SNB shocks complacent market with direct intervention. CHF crosses explode in response: how much further will CHF weaken

SNB gets serious
The Swiss National Bank was out yesterday declaring all out war on the strengthening Swiss Franc, announcing strong new expansive monetary policy measures and getting right down to business with direct intervention in the currency market. The central bank timed the announcement and intervention with an already expected cut to its 3-month Libor target to 0.25% from 0.50%. Lately, the Swiss Franc's strength was closely tracking equity weakness inversely, meaning the franc rallied as the mood soured in equities. The SNB had periodically tried to shoot across the market's bow with verbal intervention in the recent past, but traders seemed to be a bit complacent judging from yesterday's very sharp response to the SNB announcements. The sharp equity rally of recent days coupled with this dramatic new policy response form the SNB sent EURCHF on a rocket ride toward key resistance in the 1.5300/1.5400 area - more than 5% up from recent lows and the sharpest move higher since the Euro's introduction.

The move by the SNB to intervene was accompanied with announcements of new, so-called quantitative easing measures designed to avert the risk of deflation with the purchase of Swiss corporate debt. The SNB has good reason to step in here: the country's heavy dependency on exports makes a strengthening currency particularly dangerous and deflationary as surplus nations are now bearing the brunt of the fallout from the global contraction in trade and consumption. This has been mostly painfully evident in the Japanese experience. Second, Switzerland has enormous exposures to Eastern Europe, particularly in the form of mortgages, as more homebuyers financed in low yielding CHF loans rather than in their local currency during the boom times. Any purposeful weakening of the franc, therefore, is a de facto bailout effort aimed toward Eastern Europe as it helps to ease some of the self-reinforcing process of capital flow pressures on the region. This latter reason allows the SNB to "get away with" weakening its currency to a certain extent without invoking hostility from other nations.

Looking ahead, we suspect that the SNB is not targeting any particular level in EURCHF, though 1.5000 is a likely line in the sand for support, both psychologically for market participants and for the SNB. To the upside, the next big levels beyond the highs today at 1.5400 are 1.5850 and then 1.6000. In general, if the equity rally turns into a larger rally that extends beyond perhaps 800 in the S&P500, we could certainly see a test of the 1.6000 level, whereas if equities turn tail once again, the EURCHF cross is likely to simply stumble randomly in a range as the market is unwilling to fight a determined SNB and unwilling to sell francs due to the old pressures on CHF appreciation still very much in evidence. The next key test for the CHF crosses could come at the April 2 G20 meeting, which could show larger efforts aimed at bailing out the struggling CEE economies. More broadly speaking, this announcement sees the SNB joining the US Fed and the BOE in competitive devaluation efforts: no nation wants an overly strong currency in this global economic environment - and the competitive devaluation theme becomes a dominant one.

JPY crosses
The JPY crosses were a three-ring circus yesterday. Initially, the JPY was stronger on a recovery in US treasuries and a sharp commodity sell-off as we mentioned in yesterday's piece. But then the SNB rolled a grenade onto the trading floor by intervening - the most dramatic instance of intervention in 5 years by any major nation. This sent speculation swarming that the BoJ could now see fit to intervene as well and gave the JPY crosses whiplash with a surge back higher. Any further JPY weakness is likely to be relatively contained in our view as the market is most likely getting ahead of itself on intervention potential, though EURJPY could theoretically extend toward 130.00 in the short term if risk appetite is able to keep up a head of steam elsewhere.

EURUSD
Looking at EURUSD, we note that Bunds have come off sharply while traders seem less willing to sell US treasuries. Bund yields dropped below US 10-year note yields for the first time since late 2007 for one day recently, but have now widened back out to an almost 20-bp advantage. As we discussed recently, one driver of USD weakening here could be the market beginning to look for the Fed to start its next round of QE measures soon, including debt monetization. The EuroZone framework and a "reluctant to go there" (ZIRP and QE path) ECB means that the EuroZone will sit out the competitive devaluation games that have now been joined so enthusiastically by the SNB. Just yesterday, Trichet was out objecting to the idea of a EuroBond, showing that the existing framework will stumble along as long as it can. Still, the rally in EURUSD seems to be rather slow going.

G20 pre-meeting
Watch out for G20 meeting developments already this weekend, as the April 2 event is so significant that all the major finance ministers and central bankers are meeting later today and tomorrow in the US to discuss the meeting's agenda. There are plenty of disagreements to iron out and we may get clear hints at where things are headed (or whether they are headed anywhere at all if irreconcilable differences prove persistent).

USDCAD
USDCAD rose from the brink after an ugly employment report showed the unemployment rate rising to a five year high and accelerating far more rapidly than expected. But a heady resumption of the rally in oil prices and a steady stream of reminders in the press about the soundness of the Canadian financial sector are seeing USDCAD back lower toward the next layer of support at 1.2675.

Chart: USDCAD
The recent inability for the pair to hold above 1.3000 and fundamental pressures discussed above is putting some pressure on USDCAD. The rising trendline looks like the next key support level below the 1.2675 line of support. Another way to play for a stronger CAD is with a CADCHF or EURCAD trade. USDCAD will need to see 1.2950 again to give bulls renewed hope here....