How to Think about Intervention Risks

Officials from Japan and Switzerland have stepped up their rhetoric protesting the price action that has propelled their respective currencies sharply higher. Contrary to market anxiety the risk of intervention remains low and lower for the SNB than the BOJ.

The BOJ has a track record of being more interventionist. Many market participants continue to focus on levels that would trigger BOJ intervention. In our assessment this is mistaken.

Intervention appears to be more a function of volatility and although the yen has risen more than 4% in the past five sessions, the rise has been orderly. Implied volatility (3-month) is just above the 50-day moving average today and below the 100 day ave. Near 10.5%, it has only returned to levels seen in early June. Recall when before the joint intervention, implied vol reached more than 17%. When the BOJ intervened unilaterally last September, implied vol was above 13%. Other indications from the options market also indicates the market sentiment is not extreme. Nor is market positioning, judging from the most recent IMM data.

The risks of BOJ intervention are slight at best, the risk of SNB intervention is even less. Its prior intervention is seen by officials as a losing proposition, and embarrassingly so as it suffered serious(unrealized) losses.

Switzerland exports almost half of its GDP, though the key to its current account surplus is investment income. Reports indicate that some Swiss companies are trying to pass on some of the pain inflicted by the Swiss franc's climb to record highs against the euro to workers. These schemes include paying workers in euros and indexing wages to the euro. Switzerland goes to the polls in October and criticism of the Swiss franc may become more of a political issue.

The strength of the Swiss franc is undermining the competitiveness of Swiss companies. It may be a factor behind the under-performance of the Swiss stock market. It is off about 7% this year, which is among the worst performers in major European countries and is off more than twice as much as the Dow Jones Stoxx 600.