Franc futures hit 'panic' negative interest rate levels

GENEVA: The search for a safe haven to park assets shifted to panic stage this week, with investors driving Switzerland's rate futures soaring to the point they were paying to put their money in francs.

On Wednesday, Swiss three-month rate futures rallied beyond 100.0 points to reach 100.08 for September, while a day later, it remained at 100.7 points. Any movement above 100.0 points means a negative interest rate.

"It's simply that there's too much appetite for the franc or too much panic in the market, that investors are willing to take one percent or so off over the next three months to get into a safe asset," said Christian Gattiker, chief strategist of Bank Julius Baer.

"There have been exceptional and rare cases in other countries where an interest rate has turned negative," said Citibank analyst Michael Saunders in a note.

"However, we are not aware of any previous case in any major industrial country where three month interbank rates or rate futures have priced in negative rates," he added.

The Swiss central bank this month flooded the market with liquidity and cut its already low benchmark lending rate, in a bid to bring down the franc which was beginning to hurt exporters.

It came close to parity with the euro earlier this week and reached 0.7085 against the dollar after the US Federal Reserve indicated that it would hold its near zero interest rates for two years.

But it finally moved away from the parity trend when the bank stressed on Thursday that it was keeping open all options to bring down the "massively" overvalued safe-haven franc, including pegging it to the euro as well as imposing a negative interest rate.

While investors already appeared prepared to pay to hold the franc, analysts believe that the negative interest rate measure was not an option, pointing out that it was adopted in the 1970s to little success.

Then, Switzerland imposed a 10 percent negative interest rate every quarter to penalise foreign investors from hoarding the franc.

Analysts said the move proved very difficult to administer. In addition, this time round it could have the reverse impact of emphasising the safe haven quality of the currency.

"People are not putting money in Swiss banks because of the interest rates, the interest rates are already very low here," noted Jan Egbert-Sturm, who heads the ETH Zurich's KOF Swiss Economic Institute.

However, the threat of a temporary peg appeared to have been taken rather seriously by investors, going by the foreign currency trend.

On Friday, the franc had eased back to 1.10 against the euro, moving far off the parity trend.

"This threat that it could apply a temporary peg was quite frightening and it meant also that if we go back to parity, the SNB would take action," said Zuercher Kantonalbank chief analyst Claude Zehnder.

"First they use rhetoric. If the rhetoric doesn't help, then they would start implementing it," warned Gattiker.

Copyright AFP (Agence France-Presse), 2011