Carry-trade squeeze adds to Swiss franc’s haven rally

The franc’s October rally has squeezed a once-profitable bet against the currency. Investors who borrowed at Switzerland’s low rates and bought higher-yielding euros saw returns erode as political turmoil in France drove demand for the franc as a haven. By last week, year-to-date returns on selling francs to buy euros had fallen to as little as 0.1%, down from 3.4% at the end of September.

The move matters because a crowded trade can amplify currency swings when investors rush to unwind it. Asset managers have already reduced bearish franc positions, according to CFTC data, while leveraged funds remain heavily net short. If those investors buy francs to close their positions, the trade’s retreat could add to the demand supporting the currency.

The franc reached 0.91376 per euro at the end of last week, its strongest level against the common currency since May. It has weakened slightly since. The latest gain has put both carry-trade exposure and the Swiss National Bank’s response in focus.

The trade’s remaining short positions could turn into fresh franc buying. Carry trades typically rely on borrowing in a low-interest-rate currency, then investing in one with higher rates. In this case, investors have sold francs and bought euros, seeking to profit from the difference in borrowing costs. The retreat in returns has made that wager less attractive, while Europe’s political risks have increased the appeal of holding francs.

Gregor Hirt, global chief investment officer for multi asset at Allianz Global Investors, said: “If risk aversion persists, that residual position is a potential source of additional franc demand.” His warning points to a mechanism that can reinforce a rally: investors who are short the franc may need to buy it back if they close their bets.

The positioning is not uniform. Asset managers have cut back their bearish franc exposure, while leveraged funds remain heavily net short, according to CFTC data. With political turbulence in France and discussions over the country’s budget continuing, Hirt said it is difficult for real-money investors to return meaningfully to bets on a weaker franc. He urged caution on using franc funding for European assets while French spreads remain elevated.

The SNB has signalled it is ready to enter currency markets if necessary. Central bank officials told the Swiss government on Wednesday that the institution was prepared to act. The statement comes as the franc trades near levels that could test policymakers’ tolerance for further appreciation.

Scotiabank chief foreign-exchange strategist Shaun Osborne said a break below 0.90 per euro would be “uncomfortable for policymakers, especially if the franc gains were rapid.” He forecasts the currency at 0.93 per euro by year-end. The franc ended last week at 0.91376 per euro before easing slightly.

The SNB’s task is complicated by inflation’s recent rise. Swiss inflation accelerated to 1.5% in October, from 1% in September. Osborne said that increase could make the central bank more tolerant of franc strength. JPMorgan strategists expect the SNB to smooth sharp currency moves rather than “entirely stop or reverse franc appreciation.” That points to intervention aimed at moderating the pace of a move, rather than preventing the franc from strengthening at all.

Switzerland’s appeal extends beyond short-term currency bets. Florian Ielpo, head of macro at Lombard Odier Investment Managers, linked investor demand for the franc to the strength of the Swiss economy and the country’s low government debt. He described this as “structural demand”, particularly while European politics remain fraught. That longer-running support could persist even as speculative positions shift.

Investors are also choosing their currency exposures with those risks in mind. Van Luu, head of currency and fixed-income strategy at Russell Investments, said he prefers to short the franc against the yen rather than the euro. Both currencies are viewed as havens, he said, reducing the risk that political turbulence disrupts the trade. Luu estimated that the yen is about 50% cheaper than it should be against the dollar, while the franc looks around 20% overvalued against the US currency.

For Switzerland, continued demand brings a policy balancing act. A stronger franc can attract investors seeking safety, while a rapid rise could prompt the SNB to smooth currency-market moves. The unsettled European backdrop and elevated French spreads continue to weigh on appetite for bets against the franc.