Why Long USD/CHF Could Be One Of The Trades Of The Year
We provide our fundamental view on the pair, why we think it could rally and trade ideas to pull the trigger.
The pricing out of extensive Fed cuts in interest rates should support a kick higher in USD.
With several positive risk catalysts in the works, safe haven demand for CHF should diminish.
Low volatility provides some attractive risk/reward plays to consider.
Over the past year USD/CHF has fallen by 7.1%. Earlier this month, the pair traded close to the 0.8800 handle, a level seen briefly back in early 2021. Before that, it was the de-pegging of EUR/CHF back in 2015 when USD/CHF last jolted down to these levels.
In short, unwinding of Fed expectations, demand for Swissy as a safe haven with global economic uncertainty and technical breaks have all contributed to this move lower that has accelerated in the past couple of months. However, with it appearing that a double-bottom has now formed on the pair, here’s why we think getting long USD/CHF could be a great trade.
Pricing out Fed cuts
Over the course of the past week or so, we’ve seen US yields rally back. The move over the past month in the 6mth T-Bill is shown below.
Barely a month back we were seeing markets pricing in multiple cuts by the end of the year. Even though the market is still eyeing a 4.50-4.75% band by the end of 2023, we feel this will continue to reprice higher.
The Fed have continued to make it clear that even though they are taking a pause from hiking rates, they don’t have an appetite for continued rate cuts this year. Yesterday, we even had the below very hawkish comments:
Bond traders haven’t believed this for months, and the move lower in yields (particularly in March/April) hurt the USD. This factor pulled USD/CHF lower.
We feel that the Fed won’t cut rates this year, thanks to a resilient economy and tight labour market. As such, we expect yields to continue to increase, helping to support USD strength.
Dwindling safe haven demand
Investors were keen to hold CHF as a traditional safe haven for much of this year, in a similar way to gold.
However, looking forward we feel there are multiple events that could see risk sentiment improve, causing the Franc to weaken.
Firstly, a resolution on the US debt-ceiling debacle. Things appear to be moving in the right direction, and confirmation would see a boost for risk assets.
Secondly, a technical break on US equities. As the below chart highlights, the S&P 500 looks primed for a break higher. Should this be seen, it could drag other assets with it, notably a cycle out of safe havens.
Finally, a lack of concern around a European recession (something that was very much on the cards at the start of this year). This is something we follow up on…
Bullish Europe
For those investing in Europe, the Swiss Franc has always been the place to go when people don’t like the situation in the Eurozone.
As we noted in our piece last weekend (Let’s Talk About The ‘R’ Word) we feel the Eurozone will avoid a recession this year.
We noted that
“The fundamental picture for growth has improved significantly. The concerns around energy prices, the war in Ukraine, fragmentation risks and much more were swirling in the air.
Even though these risks are still present, they are nowhere near as great. Rather, with inflation falling and the ECB being noted as one of the more prudent G10 central banks, things don’t look overly ominous for the bloc.”
Should this be the case, with data supportive in coming months, we think there will be a cycle out of CHF and into EUR crosses.
Cheap vol
We’ll come on to our trade ideas below, but a final point that leads onto this is the fact that USD/CHF implied volatility is low.
This makes it relatively cheap to take a view. Not only that, but it means that being long (or short) the pair could be a trade of the year as the potential returns (if volatility picks back up again) can be very high.
As a disclaimer, trading with derivatives or any form of leverage can be very high risk and should only be used by experienced investors that are comfortable with potential losses.
Below shows the current at the money implied volatility for several tenors, priced from Bloomberg as of 19/05/23 9.12am
How to trade it
For those that agree with our view, here are a few ideas we like:
1, Buy a 3 month USDCHF call spread
Buy a 0.9100 strike call for 0.85% and sell a 0.9300 call and receive 0.30%. Pay a net premium of 0.55%
Circa 3:1 risk reward
2, Long USDCHF spot with wide range
Entry: 0.9000
Stop Loss: 0.8790
Take Profit: 0.9500
The next is our favourite idea…