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19.01.2015 05:13 Age: 59 days

Hedge funds, speculators face big losses on Swiss franc rally


Currency speculators and global macro hedge funds with large short positions in the Swiss franc are staring massive losses in the face after the Swiss National Bank shocked markets on Thursday by removing a three-year-old cap on the currency, reports Reuters.

The move sent the safe-haven franc soaring against the euro and the US dollar at a time when more than US$3.5 billion was betting on more franc weakness, the largest such position in more than a year and a half.

The damage from the Swiss franc's sharp moves comes as a blow for macro hedge fund managers nursing wounds from nearly four years of mediocre performance. Only days ago, the SNB termed the 1.20 francs per euro cap the cornerstone of its monetary policy.

"You have these massive policies which forced all investors to invest with the policy and then they remove the policy and everyone is left high and dry," said Chris Morrison, strategist for the US$550 million Omni Macro Fund.

Data from the Commodity Futures Trading Commission released Friday showed net short positions of 24,171 contracts on the Swiss franc, the largest since June 2013. Adding in 662 short option contracts gives a combined position of 24,833 contracts or US$3.5 billion at the current rate of around 0.87 franc to the dollar.

Global macro hedge funds that use fundamental analysis to bet on the financial markets and represent US$288 billion in assets on the Lyxor platform had a net short position of 2.6 per cent, indicating a loss given the currency move.

"Yesterday, we were doing fine. We were up two percent this month, but with the SNB move, our gains have been wiped out," said Axel Merk, president of Merk Investments in Palo Alto, California, which has mutual fund assets of about US$300 million.

Merk said his funds were hurt by the SNB move, with two short positions on the franc, one against the euro and the other against a currency basket. He has since closed the short position on the franc against the euro. But Merk further increased his shorts on the Swiss unit against a currency basket because he believes the risks on the franc and the Swiss economy as a result of this move have dramatically increased.

Goldman Sachs, meanwhile, on Thursday closed its 'top trade' recommendation of a short position on the Swiss franc against the Swedish crown, with a potential loss of around 16.5 per cent. It added that its current forecast for the euro against the Swiss franc is under review.

The euro dropped as much as 30 per cent below the 1.20 cap to 0.8500 franc per euro at one point Thursday before rebounding to roughly 1.00, down 16 per cent. The dollar plunged to 0.736 franc, its lowest since 2011, before paring losses. It was last trading at 0.8682 franc, down 15 per cent.

 

Still, some dodged the bullet.

London-based money manager Insight Pareto, with assets under management of about US$475 billion, closed its short position against the franc late last year.

"We didn't like how the Swiss franc behaved when the SNB moved to negative rates ... the franc was not able to sustain any kind of sell-off in the market," said Paul Lambert,

 

Insight's head of foreign exchange.

Insight converted its short Swiss franc trade into cash. Similarly, a forex options trader at a large brokerage who trades on the CME floor in Chicago said his firm stopped trading options in the Swiss franc a few weeks ago because overall volumes were increasing, leading the firm to think something was imminent. CME volume in Swiss franc futures in December was 1.15 million contracts, up 38 per cent from November and 64 per cent greater than December 2013.

 

'EVERYONE WAS STUNNED'

One of the winners was Sunny Dhonsi, a former JP Morgan trader who left last year to set up Govardhan, primarily an opportunistic equity hedge fund. He had bought puts on the euro against the Swiss franc with a 1.20 strike price.

These puts, a bet on the euro falling against the franc, were cheap because of how aggressively the Swiss had defended their currency. He said with the European Central Bank poised to boost its own monetary policy, the SNB was looking at having to purchase even more euros in order to defend the franc.

"We didn't put on the trade thinking they would lift the cap so soon, just that the options were too cheap and totally mispriced," he said.

However, other computer-driven funds that base their models on historic volatility may have been exposed because the cap has dampened volatility in the franc for the last few years.

Commodity trading advisors returned nearly 10 per cent last year, according to data from industry tracker Eurekahedge, nearly three times the average gains in global macro hedge funds.

"CTAs will win from today's move, global macro may lose and that will be a repeat of the developments that we have had in recent quarters," said Philippe Ferreira, head of research at Lyxor Asset Management.

Kevin Hoffmeister, a broker for RCO Financial who mainly deals in currency markets, said he was shocked when he strode onto the trading floor in Chicago. Because the news came out during London trading hours, the "initial shock and awe was over," but he still said "everybody was stunned."

Hoffmeister was unsure whether the SNB will take more action.

"No one thought they would do this," he said of scrapping the cap. "Will they telegraph it any better next time? Maybe. It caught a lot of people off guard."

 

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