Much of the sterling weakness has already been priced in. In addition, since there is a two-year window during which London would negotiate with Brussels, as laid down in Article 50 of the Lisbon Treaty, it is unclear what shape the final deal might take. It could be anything from extreme separation to a modest modification of the current arrangement.
While many are focused on sterling and the euro, we believe the Swiss franc is significantly exposed. We suspect that as the referendum approaches, we will increasingly see European investors protecting their assets by migrating into CHF, which provides a smart, easy hedge. If the UK votes to stay in the EU, CHF will weaken marginally, since political risk has been priced in. However, should the UK vote in favor of Brexit, there will be a massive scramble to exit the euro, for the reasons stated above. Switzerland’s negative deposit rate would be a small price to pay to avoid a decline of 10% or potentially more. This natural asymmetry makes CHF the ideal safe-haven trade.
The SNB is then very concerned about the prospect of a mad rush into CHF. Incoming Swiss economic data suggests the nation is still struggling with the overvalued CHF – a fact reflected in this year’s weak SMI performance. Renewed CHF strengthening, as nations waged a currency war to steal export growth, would be devastating. In the event of Brexit, or any other catalyst that drove CHF higher, the SNB would likely intervene – as SNB members have not been shy to remind the market. , the SNB could be forced to introduce capital controls to prevent the circumvention of negative rates and penalize short-term CHF holders. But this could have long-term consequences, with Switzerland’s reputation as a stable and liberal financial center coming under scrutiny.