Direct From Zurich: the State of the Franc

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Direct From Zurich: the State of the Franc

By Karim Rahemtulla, Chief Resource Analyst

I’m on the ground in Zurich right now, researching what could be the biggest investment opportunity of the year. But more on that later . . .

As always when I’m in Switzerland, I can’t help but wonder how people survive with a currency that’s so expensive.

New York City prices are a bargain compared to Zurich!

But the franc is on shaky ground.

Two referendums on the political table could bring the franc to its knees.

Too Strong for Its Own Good

When I travel, I like to compare purchasing power parity. This entails comparing the price of an item in multiple countries in U.S. dollars as a standard of measure.

Swiss prices always come out on top.

For example, a Whopper from Burger King (BKW) in the United States costs about $3 in most places and $4 in New York City. In Zurich, a Whopper will set you back about $9.30. If you want fries with that, add an extra $4.

Yet, even with the obvious overvaluation, the franc is strong.

During the Great Recession, which shocked the U.S. economy and continues to paralyze Europe, the Swiss have barely missed a beat. They haven’t suffered any ill effects that otherwise plague the globe.

And at a time when economies are shaky, like in Russia, or unpredictable, like in China, or subject to confiscation, as may happen in Argentina, the allure of the franc is strong.

However, the franc is overvalued and will probably change for the worse because of two referendums.

Two Strikes Against the Franc

The first is a move to tighten immigration control.

This is likely to pass and is certain to curtail economic growth as the majority of immigrants are from a low socioeconomic standing and are willing to work for lower wages than the native population.

The second is an increase in the tax burden for the very rich. Switzerland has a reputation as a safe and stable jurisdiction with a cap on taxes, which attracts a lot of foreign money.

But the new tax regulations could scare off the very rich, along with their purchasing power.

A gold referendum is also up for vote on November 30.

The government’s attempts to defend the value of the franc will also adversely affect the currency in the long run.

You see, the franc appreciated so much and so rapidly against the euro, that the Swiss declared they would spend whatever it took to get the franc down, including buying the euro and selling the franc to maintain a ceiling on the franc’s appreciation.

It’s working . . .  so far.

But where is all this money coming from? Well, the government is simply printing more of it. And that’s a problem because the Swiss don’t have the gold reserves to back it.

In the end, the franc just isn’t as strong as everyone thinks it is.

The Pressure Is Building

An expensive franc is just plain bad for business. Its biggest partner is the European Union. The Swiss export 60% of their goods to EU members and import almost 80% from countries in the union.

With the EU struggling to show consistently positive signs of growth, the franc is hamstrung.

If it goes higher, the trade situation will wreak havoc on Swiss business.

If the franc goes lower, it threatens to arouse the wrath of the Swiss population, which would force the government to defend it through one of its referendums.

Swiss politicians are governed by the majority vote. And the turnout for these two referendums is strong.

The franc looks strong for now, but bearish in the long term.

And “the chase” continues,

Karim Rahemtulla

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By Karim Rahemtulla