'Francogeddon': New Zealand foreign exchange broker shuts after Swiss national bank scraps currency cap
Updated
A New Zealand foreign exchange broker was forced to close today after suffering "a total loss of operating capital" in the wake of Switzerland's shock move to scrap its currency cap.
Global Brokers NZ said the Swiss move, dubbed 'Francogeddon' by online commentators, resulted in "rare volatility and illiquidity" in the markets.
"The majority of clients in a franc position were on the losing side and sustained losses amounting to far greater than their account equity. When a client cannot cover their losses it is passed on to us," director David Johnson said in a statement.
As a result, he said the Auckland-based broker sustained losses that meant it could no longer meet New Zealand regulators' minimum capital requirements of $NZ1 million and was shutting its doors.
Johnson did not reveal the extent of losses suffered at Global Brokers NZ but said clients whose funds were not affected by the Swiss action would not lose their money.
"100 per cent of positive client equity or balance is safe and withdrawable immediately," he said.
The move on Thursday by the Swiss central bank SNB to stop pegging the franc against the euro caught the market by surprise, sending the currency up more than 30 per cent immediately after the announcement.
The surprise move undermined investor confidence and saw the European currency plunge against the Swiss franc and the US dollar.
"News of the impact of this event on companies and traders is just beginning to come to light," Mr Johnson said.
"As directors and shareholders we would like to offer our sincerest apologies for this devastating turn of events."
'Sinking euro' to blame: professor
The Swiss cap was imposed three years ago when the central bank said it would buy unlimited amounts of foreign currency to lower the value of the Swiss franc against the euro as investors looked for a safe haven.
"The minimum exchange rate was introduced during a period of exceptional overvaluation of the Swiss franc and an extremely high level of uncertainty on the financial markets," Thomas Jordan, head of the Swiss National Bank (SNB), said.
Mr Jordan said the "exceptional and temporary measure protected the Swiss economy from serious harm" but that the SNB had concluded that enforcing and maintaining the minimum exchange rate for the Swiss franc against the euro was no longer justified.
Jeremy Siegel, professor of finance at the Wharton University of Pennsylvania said he was "not surprised" by the move considering the sinking euro.
"The euro's gone down from about $US1.40 to, we know, around $US1.15. It might go down even more. Really what they're doing is revaluing it," he said.
"I really don't think this has terrible international consequences ... if the euro had stayed around $US1.30 you would not see this Swiss bank action."
The SNB's actions came at a time when share markets are being hurt by lower commodity prices.
"In the euro area, cheaper oil should be a positive ... but it could also contribute to a further decline in inflation expectations, which increases the risk of deflation," International Monetary Fund managing director Christine Lagarde said.
"This bolsters the case for additional monetary stimulus which, I'm very pleased to see, the European Central Bank is considering."
How the cap worked
- The SNB declared a target exchange rate floor of 1.2 francs per euro in September 2011, having been trading around 1.1
- To make the cap work, the SNB pledged to buy "unlimited quantities" of foreign currencies using francs
- That increased the supply of francs on markets, while SNB euro purchases increased demand for that currency - the supply/demand balance thus pushed the franc lower against the euro
- The SNB would adjust its franc sales/foreign currency purchases to maintain its cap
- The SNB dropped the cap because it was concerned impending money printing by the European Central Bank would make it impossible to defend the cap with the foreign currency reserves it has
- A breach of the cap would have hurt SNB credibility as much, or more, than its policy U-turn
- It is not unusual for central banks to buy or sell currencies to push their currency towards a desired level - the RBA purchased Australian dollars in October and November 2008
- Central banks often trade in their own name to warn market participants that a deep-pocketed buyer/seller is active - even small transactions can thus cause a big shift in exchange rates
- This does not always work - the Bank of England tried to keep the pound higher to remain in the European Exchange Rate Mechanism in 1992, but speculators inflicted multi-billion-pound losses on the authorities forcing them to stop defending the currency
AFP/ABC
Topics: business-economics-and-finance, markets, currency, new-zealand
First posted