[LONDON] Switzerland's franc surged to its strongest level on record against the euro as cash flooded into the nation after the Swiss National Bank removed a cap on the currency that had held back inflows for more than three years.
The franc strengthened at least 15 per cent against all of its 16 major peers as the SNB said the 1.20-per-euro limit that was in force since September 2011 was no longer justified. Pressure on the cap increased in recent months as speculation the European Central Bank was preparing a quantitative-easing program of buying government bonds weakened the euro.
"Clearly they are seeing a lot of inflows coming and deciding the cost is too high," said Geoffrey Yu, a London- based senior currency strategist at UBS Group AG, Switzerland's largest lender. "They think too much money is going to come in after QE so they need a plan B. It's very surprising."
The SNB had imposed its limit on the exchange rate as an exodus from euro assets during the region's debt crisis in 2011 strengthened the franc and raised the prospect of deflation. While defending the cap pushed up Switzerland's foreign-exchange reserves, the limit was pierced only once, in April 2012. As well as removing the measure on Thursday, the SNB also said it will push the interest rate on sight deposits to minus 0.75 per cent from minus 0.25 per cent.
The franc climbed 17 per cent to 1.0253 per euro at 2:43 p.m. London time, according to data compiled by Bloomberg, after touching 85.17 centimes, the strongest level on record. It rose 17 per cent to 87.41 centimes per dollar.
Hedge funds and other speculators held a net 24,171 contracts wagering on declines in the franc versus the dollar as of Jan 6, the most since June 2013, according to data from the Commodity Futures Trading Commission. Danske Bank A/S, which including buying the dollar against the franc as one of its top trades for 2015, was stopped out of the position at 97 centimes per dollar, senior analyst Christin Tuxen wrote in an e-mail on Thursday.
"Very few saw this coming," said Neil Jones, head of hedge-fund sales at Mizuho Bank Ltd. in London. "The market price action suggests that without a floor, euro-swiss has no bid and will likely push lower."
Almost 5 billion euros of options to sell the euro against the franc at less than 1.20 per euro were traded since Oct 15, according to data compiled by the Depository Trust & Clearing Corp. Those trades, which depended on the cap being breached or removed in order to be profitable, would pay out at current traded levels on the currency pair.
Worldwide Reaction on Thursday's SNB decision roiled markets around the world.
US 10-year Treasuries erased declines, pushing yields down as much as five basis points, or 0.05 percentage point, and the yield on German two-year notes dropped to a record minus 0.154 per cent. The price of Euribor futures for some months this year rose above 100 for the first time, turning implied yields negative.
The Swiss Market Index of equities slid 10 per cent, its biggest intraday drop since 1997, and Swatch Group AG, Switzerland's biggest watchmaker, tumbled as much as 18 per cent.
"Words fail me," Swatch Chief Executive Officer Nick Hayek said by e-mail. "on Thursday's SNB action is a tsunami; for the export industry and for tourism, and finally for the entire country." Switzerland's 10-year government bond erased losses, driving its yield down 9 basis points to 0.084 per cent. Eight- year yields turned negative for the first time.
Haven Demand The currency limit had weathered a deepening crisis in the euro-region, conflict in Ukraine and years of extraordinary stimulus from the ECB that all boosted investor demand for the franc as a haven. By imposing it, the SNB swelled its currency reserves to 495.1 billion francs in December from 253 billion francs in August 2011.
The over-valuation of the franc decreased since the cap was introduced, and in the meantime, the economy was able to take advantage of this phase to adjust to the new situation, the SNB said on Thursday in a statement.
"Clearly they understand the floor was untenable," said Peter Rosenstreich, head of market strategy at Swissquote Bank at Gland, Switzerland. "It was only a matter of time before expansion of balance sheet reached the upper limit."