“In response to a question posed at a forum by The International Economy magazine in its Spring 2015 issue: Will America Soon Have an Inflation Problem?
“Not a chance. Fed policy since 2008 has been to tilt against powerful deflationary forces that have yet to abate. How powerful are those forces? Consider this: from September 2008 to date, the monetary base has increased by 336%, from $0.94 trillion to $4.1 trillion, yet the annual CPI growth declined from 5% in September 2008 to a negative -0.1% in February 2015. So, we are talking about quite powerful underlying deflationary forces that will not go away.
Commentary & Analysis
Thinking Swissie! By far the most overvalued currency on a cycle low to high scale
Swiss Bank Chairman Thomas Jordan said today the Swiss franc is “considerably overvalued” and was concerned there may be a rush of funds into the franc if Greece were to leave the single currency regime. I believe Mr. Jordan is correct on both counts. If you measure relative Swiss valuation to the other major pairs in terms of what I define as cycle low to high, you get a better sense of the love investors have had for Swissie during the last dollar bear market cycle.
First the definition of cycle low to high: It is that period measure from early 2000 to early 2008 which represented the eight year dollar bear market (which was a roughly eight year bull market in the Swiss franc and other major pairs).
I have summarized the major pairs’ cycle low-high prices and dates in the table below. Prices are in dollar terms for consistency.
Using Swissie (CHFUSD) for example, the chart shows the cycle low in Swiss-USD was on 10/25/2000 at a price of 0.5489; the cycle high was made on 8/9/2001 at 1.3827; and the last trade was 1.0671 today.
- From cycle low to cycle high (during the Swiss bull market, i.e. dollar bear market) Swissie appreciated a whopping 151.9%; a far greater than any other major currency. The Australian dollar was in second place with an appreciation of 131.8% during its low-high cycle.
- Despite such whopping gains; Swissie has depreciated the least from its cycle high based on today’s prices, down 22.8%.
- And the point to this analysis (if we can call it that) is Swissie is still perched a whopping 94.4% above its cycle low even though we are into year five of the US dollar bull market. Again, the next most overvalued currency on this cycle low/high scale is the Aussie; it is still 61.6% above its cycle high.
Granted, there is no guarantee the dollar bull market continues. And if it does, there is no guarantee the US dollar will reach its last cycle high at 121.02 in early July 2001 (meaning the major pairs may not reach their cycle lows).
But, it is interesting to think about. Why did Swiss appreciate so much and why is it still holding up so well? I would suspect the answer on both counts is a currency name the euro.
Using this simple measure of relative appreciation/depreciation of the major pairs against the US dollar, it helps justify Mr. Jordan’s concerns and helps explain why Swiss rates are in negative territory and likely to remain there for a while. Swiss has institutional value beyond hot money flows based on yield differentials alone. [Though there was reputational damaged given the poor handling of the de-pegging from the euro. And of course the Orwellian-named US Justice Department snoopers can now see peek into Swiss accounts.]
The question is what needs to happen for Swiss to start trading more in line with the other pairs i.e. for some of that relative overvaluation to be shaken out of the franc? The answer again likely points back to the euro. If we get through this Greek crisis period, and there is some market normalization, maybe Swiss negative yields will start to play a bigger role. And if the Fed does start a campaign of rate hikes in September, the Swiss franc could be the horse to ride for a change.