The Case for a Swiss Rate Cut May Be Stronger Than You Think

(Bloomberg) -- The last time the Swiss National Bank surprised investors by cutting interest rates, the bond market provided a signal. It’s now flashing again.

The spread between yields on Swiss and German bonds evaporated last week, just as they did when the SNB slashed its deposit rate to to -0.75% and gave up its cap of 1.20 per euro on the franc in early 2015.

Economists and investors expect the SNB to hold borrowing costs at a record low for the rest of the year. But options market data indicate the central bank’s quest to rein in the franc, which climbed to a five-year high against the euro on Thursday, isn’t over yet. Add the economic blow delivered by the coronavirus pandemic to the mix, and the case for a surprise rate cut appears stronger.

“The next move from the SNB logically would be to cut rates even more, given the size of the economic shock in Europe and the U.S.,” said Sebastien Galy, senior macro strategist at Nordea Investment Funds SA.

The central bank has already responded to the crisis caused by the coronavirus outbreak by intervening more aggressively in the foreign exchange market.

But UBS Group AG strategist Thomas Flury sees the franc climbing to 1.04 per euro this quarter, with the Swiss currency supported by central banks elsewhere cutting rates and investors piling into haven assets.

There are also reasons to hold off from a cut, with negative rates already squeezing bank profit margins. In the neighboring euro zone, the European Central Bank has kept rates unchanged even as it ramped up bond purchases.

Money markets are barely pricing any change in borrowing costs. In fact, market-based expectations for a rate cut were greater last month. Economists surveyed by Bloomberg this month also see the SNB holding fire until the end of 2021.

“We’re of the opinion that they won’t do anything,” David Marmet, an economist at Zuercher Kantonalbank, said. A cut risks adding to the general public’s fears of having to pay negative rates on their savings accounts, he said.

“I think they’ll wait and hope that the fiscal policy has an effect.”

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