The Swiss National Bank’s unpegging of the Swiss franc from the euro knocked many markets sideways last month and longer-term consequences could engulf foreign borrowers.
The Swiss franc has appreciated by 20% since the SNB dramatically changed its currency policy on January 15, raising the cost to foreign borrowers of servicing their outstanding debt.
Russian companies have been some of the largest borrowers of franc denominated debt in the past couple of years, and analysts warn this could come back to haunt them.
Since January 15 the yield on VTB Bank’s outstanding 2018 franc bonds, for instance, has risen by over 250 basis points compared to where its dollar bonds of the same maturity trade. Before the SNB’s move, the Russian bank’s outstanding franc bonds traded at a discount to its dollar curve.
Such a rise in costs could hit Russian companies especially hard, given the effect that western sanctions, falling oil prices, a sliding rouble and an economy on the brink of recession are already having.
Christopher Whalen, senior managing director at Kroll Bond Rating Agency, says borrowers in Russia, Hungary, Romania and Poland do “potentially face significant increases in the cost of debt service [in Swiss francs]” and warns that it is a particularly acute issue for Russian companies, many of which secured loans in the currency using collateral with a value that depended on assumptions of $100 per barrel of oil.
Just as troubling, say analysts, is the extent of Austrian banks’ Swiss franc mortgage exposure – largely through their subsidiaries – in countries such as the Hungary, Poland and Romania.
The SNB’s move has effectively shut out of the market many international issuers of Swiss franc bonds. It is just not competitive for these issuers to access the market
Austria’s four largest banks – Erste Bank, Raiffeisen Bank International (RBI), UniCredit Bank Austria and Volsbanken-Verbund – together hold about SFr30 billion of assets on their balance sheets, most of which are mortgages originated before the 2008 financial crisis, according to Fitch Ratings.
The worry is that a 20% strengthening of the Swiss franc is likely to increase bad loans for the banks.
Patrick Rioual, director of financial institutions at Fitch, says RBI is likely to be most vulnerable since it has the highest proportion of Swiss franc loans in the CEE region, and predominantly in Poland.
He adds that higher loan impairment charges would put further pressure on the Austrian banking sector’s already poor profitability, at the same time as the increase in risk-weighted assets of Swiss franc exposures will reduce their regulatory capital ratios.
However, he argues the impact will “be mild since open foreign exchange positions are typically low” and that margin calls on banks’ Swiss franc to euro currency swaps are also manageable as Austrian banks have liquid asset buffers ranging from 15% to 25% of total assets.
Many foreign borrowers have now been priced out of raising new Swiss franc debt. “For the time being, the SNB’s move has effectively shut out of the market many international issuers of Swiss franc bonds,” says Dominique Kunz, head of Swiss debt capital markets at Credit Suisse. “It is just not competitive for these issuers to access the market.”
He warns that while it is still early in the year to make such a call “we’re looking at potentially lower issuance volumes this year in the international segment [of the Swiss franc bond market]”.
Domestic borrowers naturally dominate the Swiss franc bond market, but increasingly foreign companies have been raising funding to take advantage of a positive cross-currency swap – where swapping the proceeds back into their own currencies has been done on attractive levels. This is now prohibitively expensive.
Westpac and Crédit Agricole, for instance, raised five, seven and 10-year money between them in the first and second weeks of January. But since the SNB’s move in mid-January, spreads over mid-swaps on these bonds have widened substantially.
“Westpac’s seven-year deal was priced at par and came at 18 basis points over mid-swaps. That same trade wouldn’t work at all today because the seven-year mid-swap level is negative 40 basis points,” says a DCM banker at a European bank. “That trade is now being quoted at around 50 basis points over mid-swaps, which is a big widening in anyone’s book.”
Most foreign companies are fully hedged to protect against any sudden move in the Swiss franc, say bankers, but some caution that smaller companies may be caught out by the size of the collateral call they would need to post.
“If its SFr200 million you start flat but then if the exchange rate suddenly moves up 20% that’s essentially SFr40 million of collateral that has to be posted, which is a lot for small company that doesn’t have the most liquid of treasury operations” says a DCM banker at a European bank. “And that’s potentially a problem area, not among the liquid banks on the other side of the trade, most of which will run a flat swap book.”