Some Thoughts On the SNB’s decision

Thomas Jordan SNB

“Only when the tide goes out do you discover who’s been swimming naked.” – Warren Buffett

The Swiss National Bank’s (SNB) shock abandonment of the CHF 1.20 per Euro peg shows the risks that abound when investors rely on the central banks’ every word to deploy capital and make investment decisions. It brings to the fore the reason why leverage (debt) should be abstained from generally in an investment. The extremely one-sided nature of the EUR/CHF trade, being long the euro, shows the risks of having a crowded and lopsided trade which leads to illiquidity and difficulty exiting.

James Grant of Grant’s Interest Rate Observer had written months before about the risks that lurks in Europe due to the SNB’s peg. He states the some of the unintended consequences of such monetary largesse from the SNB and the its effects on exacerbating the fragility of the insurance industry already suffering from low returns in a ZIRP world.

Investors that based their investment decisions on the word cloud emanating from the central banks have been given a rude awakening to the reality of the present investing climate. Due to the era of quantitative easing (QE), zero interest rate policy (ZIRP), negative interest rate policies (NIRP) and forward guidance investors have become complacent to risks and have come to view these as put options (the right but not the obligation to sell an asset at an agreed price within the period of the contract) on their positions. The implosion of Alpari UK, Everest Capital and FXCM show the risks that lurk in markets when firms employ excessive leverage and exercise poor risk management. Incidentally, JPMorgan reportedly made about $300M on its currency bets

More black swan events exist in the global economy which are constantly being explained away by the central banks and market participants. These include the markets’ believe in the Chinese soft-landing, Abenomics being the panacea to Japan’s ills, the limited risks that Venezuela’s default pose to the global economy and containment of core and peripheral Europe’s debt crisis to name a few. The power of governments to shape and control markets will be severely tested.

The saying “Don’t fight the Fed” may prove to be a foolish saying some years from now. Fundamental analysis of investment theses and strong risk management would help weather the storms that come ahead. When market sentiment switches from euphoria to fear, those that perform deep fundamental analysis would come out relatively unscathed.

Photo: Valentin Flauraud/Bloomberg


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