Fixed Income

In language and forecasts, a dovish Swiss turn

In language and forecasts, a dovish Swiss turn
Markus Thöny - Head of Swiss Fixed Income

Markus Thöny

Head of Swiss Fixed Income
Philipp Burckhardt, CFA - Fixed Income Strategist and Senior Portfolio Manager

Philipp Burckhardt, CFA

Fixed Income Strategist and Senior Portfolio Manager

The latest Swiss National Bank meeting was somewhat dovish, but in line with expectations, including language changes in the bank’s statement, its approach to the currency and softer inflation forecasts. We analyse what stood out for fixed-income investors.

 

Need to know:

  • Effectively signalling rates are at their peak, the Swiss National Bank dropped hawkish language in its statement and lowered its conditional inflation forecasts
  • The bank’s sensitivity to currency moves is likely to colour its decisions on rates and the balance sheet
  • We expect SNB policy to turn more accommodative next year, but see current market expectations for a March rate cut as being a little early

 

Peak Swiss rates raise questions of cut timing

The Swiss National Bank (SNB) left interest rates unchanged at its December policy meeting but adopted more dovish language in its statement as it lowered its forecast outlook for inflation. The simultaneous weakening of Swiss growth and stronger than expected decline in domestic inflation likely signalled to the SNB that it has tightened interest rates sufficiently thus far.

Swiss rates are effectively now at their peak at 1.75%, making the key question when the bank can move lower. Going forward, it appears to be adopting a watchful stance, taking cues from the data and acting accordingly. It highlighted the decrease in inflation over the past quarter while also flagging high levels of uncertainty and a need to monitor developments.

This focus on uncertainty differs from the Federal Reserve, which at its December meeting did not push back on dovish market expectations and instead pointed to softer labour data as potentially justifying loosening next year. The Fed has found confidence in US data, and even if the SNB mandate does not include employment, the Swiss central bank could easily follow the overall dovish trajectory in the next few months, and could even cut sooner.

Notably, the SNB statement dropped previous language on possible future hikes not being ruled out. Instead “The SNB will… continue to monitor the development of inflation closely, and will adjust its monetary policy if necessary to ensure inflation remains within the range consistent with price stability over the medium term.”

To us, the change in language signalled the central bank: (a) being data dependent and (b) adopting a more one-sided and dovish message.

 

Reducing the forecast inflation path

The downward revision to the bank’s conditional inflation forecasts (figure 1) was another sign that policy loosening could be in the cards next year. The 2025 end-point of the forecast horizon was particularly relevant: the SNB lowered its forecast from 1.9% to 1.6%, thus implying a possible first interest rate cut next year since the forecast is well below its 2% target.

The move to a 1.6% forecast by end-December 2025 offers the bank greater flexibility on when to loosen policy as it can pick any meeting next year, in our opinion.

 

Figure 1. Swiss inflation and SNB inflation forecast

Chart 1.svg

Source: BES, SNB and Bloomberg. For illustrative purposes only. As at 18 December 2023.

 

The currency: a change in tack

The SNB could now turn to reducing the balance sheet: it ballooned from currency interventions to weaken the Swiss franc during the ultra-loose policy of the last decades but is now contracting. In recent quarters, the SNB has reduced it by around 3% to 4% per quarter, so it will be several years before normalisation is complete (figure 2).

 

Figure 2. SNB FX transactions and balance sheet size

Chart 2.svg

Source: SNB, Bloomberg. For illustrative purposes only. As at 18 December 2023.

 

Generally, the currency plays an important role for Swiss policy, far more than for other major central banks. So far, the franc has not appreciated too much in real terms and could soften as a corollary of lower interest rates, if required.

Interestingly, the latest policy statement also changed the language on foreign exchange. Previously the SNB’s explicit focus was on selling foreign currency, whereas that bias has since disappeared with lower inflation prints and a stronger franc. Now, the policy statement says “The SNB is also willing to be active in the foreign exchange market as necessary.”

Going forward, we note that the bank’s sensitivity to currency moves are likely to colour its decisions on rates. Were the currency to depreciate too strongly from here, then the SNB could ease policy again, most notably through lowering interest rates. This scenario cannot be completely ruled out, in our opinion.

 

Where to next?

We believe that the market’s expectation of a first SNB rate cut in March 2024 seems a little early, especially because we do not expect a severe recession, but merely a slowdown in growth. Rather we expect the first SNB reduction later in the year.

The recent Fed meeting increased the chances of a soft landing scenario, but the spectre of a no landing scenario remains. In this context, we see the SNB remaining in ‘wait and see’ mode and assessing the data for when to loosen policy.

important information.

For professional investors only

This document is issued by Lombard Odier Asset Management (Europe) Limited, authorised and regulated by the Financial Conduct Authority (the “FCA”), and entered on the FCA register with registration number 515393. This document is approved at the date of publication.

Lombard Odier Investment Managers (“LOIM”) is a trade name.

This document is provided for information purposes only and does not constitute an offer or a recommendation to purchase or sell any security or service. It is not intended for distribution, publication, or use in any jurisdiction where such distribution, publication, or use would be unlawful. This material does not contain personalized recommendations or advice and is not intended to substitute any professional advice on investment in financial products. Before entering into any transaction, an investor should consider carefully the suitability of a transaction to his/her particular circumstances and, where necessary, obtain independent professional advice in respect of risks, as well as any legal, regulatory, credit, tax, and accounting consequences. This document is the property of LOIM and is addressed to its recipient exclusively for their 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. This material contains the opinions of LOIM, as at the date of issue.

UK regulation for the protection of retail clients in the UK and the compensation available under the UK Financial Services Compensation scheme does not apply in respect of any investment or services provided by an overseas person. A summary of investor rights and information on the integration of sustainability risks are available at: https://am.lombardodier.com/home/asset-management-regulatory-disc.html.

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.

Source of the figures: Unless otherwise stated, figures are prepared by LOIM.

Although certain information has been obtained from public sources believed to be reliable, without independent verification, we cannot guarantee its accuracy or the completeness of all information available from public sources.

Views and opinions expressed are for informational purposes only and do not constitute a recommendation by LOIM to buy, sell or hold any security. Views and opinions are current as of the date of this presentation and may be subject to change. They should not be construed as investment advice.

No part of this material may be (i) copied, photocopied or duplicated in any form, by any means, or (ii) distributed to any person that is not an employee, officer, director, or authorised agent of the recipient, without Lombard Odier Asset Management (Europe) Limited prior consent. ©2023 Lombard Odier IM. All rights reserved.