Euro-to-Swiss-Franc Rate Forecasts Cut at J.P. Morgan as Italian Risk to Boost Safe-haven Demand

- EUR/CHF forecasts cut at J.P. Morgan as Euro outlook darkens.

- Italian political uncertainty to support the safe-have Swiss Franc.

- Recent lack of recent central bank intervention unshackles the CHF.

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The rise to power of an anti-establishment government in Italy has depressed the outlook for the Euro-to-Swiss-Franc exchange rate and led major investment bank, J.P. Morgan, to downgrade its forecast for the pair.

Although it now seems unlikely that Italy will leave the currency union there is still a 5% probability, according to J.P. Morgan, of a Greek-style debt crisis in Italy that would hit the Euro and lift the safe-have Swiss Franc.

And with markets set to remain sceptical over Italy's commitment to the single currency, the Swiss Franc continuing to attract a bid during the months ahead. The EUR/CHF exchange rate will also benefit from an absence of intervention in the currency market by the Swiss National Bank (SNB).

On previous occasions when the Franc was subject to upward pressure the SNB (SNB) would normally step in to weaken the currency due to effect a rising Franc can have on inflation however, this is seen as less likely to happen now than it once was seeing as the SNB has held off from intervention during recent times.

"We don’t expect a full-blown existential crisis in the euro area, but if this were to occur, we doubt whether the SNB would have the balance sheet capacity to prevent an accompanying, material appreciation in the franc," says Paul Meggyesi, vice president of global currencies and commodities at J.P. Morgan.

The Swiss central bank has seen its balance sheet swell during recent years, from 35% of Swiss GDP in 2010 to around 125%, due to its interventions in the currency market. These have seen it create new Swiss money and dump it on the market year after year, hoovering up foreign currencies in return, in order to prevent the Franc from surging higher.

"The SNB may need to be rather circumspect in how it approaches intervention seeing that its balance sheet stands at 125% of GDP compared to 35% of GDP on the eve of the euro area debt crisis in 2010. The SNB has the more limited firepower and may need to be more discriminating in choosing when and how to deploy this," Meggyesi writes.

SNB intervention can be monitored by watching changes in the Bank's "sight deposits", which provide a measure of the changing amount of foreign currency on its books, but these deposits only grew by 0.55bn during the loast month when financial markets were struck by developments in Italy.

This is much lower than the 20 billion and 40 billion changes seen during the Brexit referendum and the French presidential elections, when the SNB did intervene in the currency market.

The reduced prospect of more SNB intervention eliminates one major headwind to Franc appreciation and informs JP Morgan's decision to lower its forecasts for the EUR/CHF rate, yet there are other reasons as well, including those born through technical analysis of the currency pair's chart. The sell-off from the year's high has been very steep and looks incomplete.

"The very impulsive sell-off from this year's high at 1.2008, which includes a break below key support at 1.1490/79 (int. 38.2 % = wave 4 projections), is clear testimony that we are most likely dealing with a much broader setback to 1.0623 (2016 low)" says Thomas Anthonj, a technical strategist at J.P. Morgan.

Based on his "Elliot wave" analysis, Anthonj says the next move for the pair is likely to be down to the 1.12 area. This will be the first leg of a larger move lower, although the exchange rate will not decline in a straight line. Rather, the EUR/CHF depreciation will be peppered with upward corrections.

However, a break back above 1.1662 could nullify Anthonj's hypothesis of a broader downward move and suggest a stronger pull higher. Nonetheless, the J.P. Morgan FX team have cut thier forecasts for the EUR/CHF rate and told clients it will remain under pressure into 2019.

They project the exchange rate will now hug the current 1.16 level closely for the rest of 2018 before rising gradually to 1.19 before the end of March 2019, where it will remain until June.

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