Fixed Income
Can the SNB pause now?
Once again, the Swiss National Bank cut interest rates at its latest monetary policy meeting. What was the real impetus for the move, and what might we expect from policy makers going forward?
Need to know:
|
---|
Another surprise rate cut – sort of
Marching ahead, the Swiss National Bank cut its policy rate by 25bps to 1.25% at its June meeting. While expected to some degree by market participants, the move did spark a reaction in the form of a bull steepening of the curve, i.e., the front-end rallying more than longer maturities. This brings the SNB’s total easing to 50bps so far this year, well ahead of the ECB’s 25bps and strongly contrasting with the Federal Reserve, which hasn’t even started its cutting cycle yet.
At the same time, the SNB modified the messages conveyed through its forecasts. First, the inflation projections have been gently lowered at the far end to 1.0%, showing confidence in the policy mix and effects on price stability, and the dampening of second round effects (see figure 1). Secondly, the SNB included a new GDP forecast for 2025 of 1.5%. This is an interesting message, in our opinion, as growth seemingly is expected to accelerate from here while inflation decelerates.
In such an environment, central banks could feel the urge to be cautious with rate cuts to avoid the risk of inflation picking up again, especially knowing how challenging inflation forecasting has been in the recent past. The SNB’s message hence reflects confidence, as policy makers seem to be certain enough to shrug off those risks.
FIG 1. SNB conditional inflation projections
Source: SNB1. As at May 2024. For illustrative purposes only.
Is it all in the ‘core’ now?
One key sentence was added to the June monetary policy statement in the discussion on price stability. The SNB has typically refrained from mentioning `core’ inflation (versus headline inflation, which includes the whole basket of items). This is in contrast to the Fed, which has stressed that its key inflation measure excludes volatile items like food and energy. But this time, Swiss policy makers added a sentence related to “underlying inflationary pressure”2.
We believe this is intended to put more focus on balancing the measures out in terms of both concept and time horizon, as the SNB’s mandate is kept broad on purpose. There has been some recent acceleration, but more importantly, core inflation has moved above headline inflation. It is also worth highlighting that for a 3-month-on-3-month (3m/3m) and annualised series, these figures all came in between 1% and 2%. We believe the SNB’s implicit target is around 1%, and the long-term average is about 0.5% (see figure 2), so inflation remains elevated.
FIG 2. Switzerland prices 3m/3m, seasonally adjusted annual rate (SAAR)
Source: BfS, LOIM calculations. As at May 2024. For illustrative purposes only.
When dissecting the data by components, figure 3 shows that service inflation has been trending significantly above goods inflation. While we see the need to balance out these concepts, it weakens the case for diminishing price pressures, in our opinion. Services, for example – which are largely driven by wages, and hence sensitive to slack in the labour market and quite directly by monetary policy – are challenging to slow down if the central bank decides to ease its policy rate, despite rates remaining restrictive overall.
In line with our thinking after the SNB cut in March, we once again do not see inflation as being the main impetus for the SNB lowering rates. Furthermore, we think inflation could now be the reason to pause the cuts.
FIG 3. Services vs goods inflation 3m/3m, SAAR
Source: BfS, LOIM calculations. As at May 2024 For illustrative purposes only.
The quest for neutral
In his speech3 at the end of May, SNB Chair Thomas Jordan discussed the estimated level of the neutral rate of interest, where monetary policy is neither accommodative nor restrictive. According to his figures, the median real neutral rate is around 0%. This would correspond to a nominal rate of 1%, assuming a long-term median inflation ‘target’ of 1%.
Putting this into context, we are likely still in restrictive territory, but less so (if 1.75% was the peak of this cycle and the starting point for rate cuts). If 1% were the neutral target, moving interest rates from 1.5% to 1.25% would signal caution with regard to the outlook, in our view.
Swiss exporters have significant sensitivity to exchange rate moves, given that a stronger currency makes their goods less competitive globally. As figure 4 illustrates, Swiss manufacturing has been significantly underperforming global manufacturing, and that coincides with the strength of the franc.
FIG 4. Swiss manufacturing minus global manufacturing vs exchange rate
Source: Citigroup, Markit, Credit Suisse, LOIM calculations. As at June 2024. For illustrative purposes only.
The recent surge in the Swiss franc probably wasn’t welcomed by the SNB. In our opinion, making the franc less attractive was a key reason for lowering the policy rate. The resulting environment gives more breathing room for exporters, without hurting credibility and de-anchoring expectations – as long as inflation and, most importantly, second round effects remain in check.
Additionally, it counters eventual safe haven flows that have been accumulating amid increased uncertainty stemming from the political situation in France.
Needing more evidence
We believe this is as far the SNB is willing to go at this stage. Policy makers need more concrete evidence of diminishing price pressures and a softening in activity – or a significant increase in safe haven flows – before eventually deciding to move rates to neutral, i.e., to 1%.
In fact, with Jordan stepping down in September, the starting point for his successor – announced on 26 June as Martin Schlegel – is quite favourable. There are enough ways for Schlegel to leave his mark from day one.
Sources
important information.
For professional investors use only
This document is a Corporate Communication and is intended for Professional Investors only.
This document is a Corporate Communication for Professional Investors only and is not a marketing communication related to a fund, an investment product or investment services in your country. This document is not intended to provide investment, tax, accounting, professional or legal advice.
This document is issued by :
Lombard Odier Asset Management (Europe) Limited (hereinafter the “Company”). The Company is authorised and regulated by the Financial Conduct Authority (the “FCA”), entered on the FCA register with registration number 515393.
This document is approved at the date of the publishing. The Company is clustered within the Lombard Odier Investment Management Division (“LOIM”) of Lombard Odier Group which support in the preparation of this document and LOIM is a trade name.
Any opinions or forecasts provided are as of the date specified, may change without notice, do not predict future results and do not constitute a recommendation or offer of any investment product or investment services.
This document is the property of LOIM, is provided for information purposes only and is addressed for the recipient exclusively for its personal use. It may not be reproduced (in whole or in part), transmitted, modified, or used for any other purpose without the prior written permission of LOIM. It is not intended for distribution, publication, or used for any other purpose without the prior written permission of LOIM.
The contents of this document are intended for persons who are professionals and who have been vetted by LOIM and assessed as suitable to the investment matters set out in this document and in respect of whom LOIM has received an assurance that they are capable of making their own investment decisions and understanding the risks involved in making investments of the type included in this document or other persons that LOIM has expressly confirmed as being appropriate recipients of this document. If you are not a person falling within the above categories, you are kindly asked to either return this document to LOIM or to destroy it and are expressly warned that you must not rely upon its contents or have regard to any of the matters set out in this document in relation to investment matters and must not transmit this document to any other person. This document contains the opinions of LOIM, as at the date of issue or completeness of the information contained in this document, nor does it accept any liability for any loss or damage resulting from its use. All information and opinions as well as the prices indicated may change without notice.
The contents of this document has not been reviewed by any regulatory authority in any jurisdictions and does not constitute an offer or a recommendation to subscribe for any securities or other financial instruments or products.
It contains opinions of LOIM, as at the date of issue. These opinions and information contained herein in this document does not take into account all the specific circumstances of the addressee. Therefore, no representation is made that the information presented in this document are suitable or appropriate to the individual circumstances of any investors. Tax treatment depends on the individual circumstance of the investor and may be subject to change in the future. LOIM does not provide tax advice.
The information and analysis contained herein are based on sources believed to be reliable. While LOIM uses its best efforts to ensure that the content is created in good faith and with greatest care, it does not guarantee the timeliness, accuracy, validity, reliability or completeness of the information contained in this document, neither does it warrant that the information is free from errors and omission not does it accept any liability for any loss or damage resulting from its use. All information and opinions as well as the prices indicated may change without notice. Particular contents of third parties are marked as such. LOIM assumes no liability for any indirect, incidental or consequential damages that are caused by or in connection with the use of such content.
The Source of the data has been mentioned wherever it was available. Unless otherwise stated, the data is prepared by LOIM.
Not for US Person: This corporate communication is not intended for any "U.S. Person" as defined in Regulation S of the Act, as amended or pursuant to the 1940 United States Investment Company Act as amended and will not be registered pursuant to the 1940 United States Investment Company Act as amended, or pursuant to other US federal laws. Neither this document nor any copy thereof may be sent, taken into, or distributed in the United States of America, any of its territories or possessions or areas subject to its jurisdiction, or to or for the benefit of a United States Person. For this purpose, the term "United States Person" shall mean any citizen, national or resident of the United States of America, partnership organized or existing in any state, territory or possession of the United States of America, a corporation organized under the laws of the United States or of any state, territory or possession thereof, or any estate or trust that is subject to United States Federal income tax regardless of the source of its income.
Data Protection: You may be receiving this Communication because you have provided us your contact details. If this is the case, note that we may process your personal data for direct marketing purposes. For more information on Lombard Odier’s data protection policy, please refer to www.lombardodier.com/privacy-policy
©2024 Lombard Odier IM. All rights reserved.