"Tied at the hip" sums up the cyclical relationship between the Swiss and German economies as well as the Swiss franc’s trade-weighted index (against a basket of currencies). The top window in the chart shows Swiss and German GDP and the fairly strong correlation between the two. Nearly 58% of Swiss exports go to Western Europe, with more than 15% destined for Germany. Not only has growth in Southern Europe dipped back into contraction, but Germany also is showing signs of a looming recession according to the IFO and ZEW surveys on business and investor sentiment, as well as the Purchasing Managers’ Indexes.
The middle window shows the expectations index of Germany’s IFO business survey and Switzerland’s KoF survey of leading economic indicators. Note how the franc held up during the 2007-2008 crisis despite the Swiss and German recessions. From October 2007 (the peak for equity indexes) to March 2009 (bottom of equities), the franc’s trade weighted index gained 15%. Considering the SNB’s active role in stemming franc strength, the currency likely will suffer during the next phase of macroeconomic deterioration in Europe. Considering the Swiss franc’s tendency to underperform during rising global equities, the currency will remain pressured for as long as stocks continue to avoid breaking below key support levels: 10,200 in the Dow, 1,100 in the S&P 500 and 4,780 in the FTSE-100. But any violent sell-off in equities brought about by events such as failed European bond auctions, ongoing disagreements over debt terms or new waves of sovereign downgrades likely will prop the franc against non-EUR currencies only temporarily. Such events could be exploited by traders to sell the franc on each bounce.
Our favorite pick against the Swiss franc would be the Canadian dollar because of ongoing volatility in oil prices stemming from Mideast uncertainty. Aside from the energy argument sustaining the loonie, any surprise bounce in U.S. growth is likely to help loonie sentiment. CAD/CHF is seen extending gains towards 0.96 from the current 0.90, with support cropping up at 0.88. An alternative but similar trade would be to combine longs in USD/CHF with shorts in USD/CAD.
Ashraf Laidi is an independent strategist and author of "Currency Trading & Intermarket Analysis." His Intermarket Insight appears daily on AshrafLaidi.com.