The Swiss franc plunged nearly 10 percent against the euro Tuesday, ending four days of gains, after Switzerland's central bank jolted markets by setting a limit on how much its currency can strengthen versus the single currency.
The euro surged on trading platform EBS to 1.22 francs from a low of 1.10200 and a closing level at 1.11000 on Monday, its largest one-day gain ever, after the Swiss National Bank set a rate target of 1.20 francs to the euro to bolster its export-oriented economy. The bank said it would enforce its stance by buying foreign currency in unlimited quantities. .
Many analysts believed the SNB may have finally instilled fear in investors still trying to seek shelter in the franc away from the euro zone's sovereign debt crisis. The SNB's ability, however, to hold the floor at 1.20 francs to the euro will very much depend on developments in the euro area.
"An intensification of the euro zone crisis is a reasonable prospect and such an event could yet result in a significant step up in demand for the Swiss franc," said Jane Foley, senior currency strategist at Rabobank in London.
However, since there is zero inflation in Switzerland, the SNB could potentially just print francs and sell them on an unlimited basis to counter the surge in currency inflows. For this reason, Foley believes the 1.20 cap on the euro/Swiss franc could hold in the near term.
The euro was last up 8.9 percent at 1.20700 francs.
The Swiss franc has dropped roughly 20 percent versus the euro in the past month as the single currency has soared from a lifetime low of 1.00750 hit on Aug. 9 on EBS.
As a result, fund managers who took bets that the franc would fall around that time were sitting on hefty gains.
The U.S. dollar rose as high as 0.86250 franc on EBS and was last up 9.5 percent at 0.86180 franc, snapping a four-day drop against the franc.
The latest SNB move comes after it cut its already low interest rate target to nil on Aug. 3. It also flooded the banking system with francs, effectively driving money market and forward rates deep into negative territory and making holding Swiss francs a costly proposition for investors.
FLOWS INTO NORWAY
The Swiss central bank action also funneled some safe-haven flows into the Norwegian crown, a currency with robust fundamentals -- an oil exporter and a country with a current account surplus. The euro fell 1.6 percent against Norway's crown to 7.5427.
One-month implied volatility on the euro/Norwegian crown pair, a measure of the market's expectations of future movements in either direction, jumped to 9.7 percent from 8.4 percent late Monday, suggesting more trading action seen on this cross.
Despite the euro's steep gains against the Swiss franc, the single currency fell against the dollar, down 0.5 percent on the day at $1.40140. It fell to a low of $1.39720, trading below its 200-day moving average around $1.40150 for the first time since July 12.
Market players said the key risk for the euro this week was that the European Central Bank would signal a pause in its rate tightening cycle.
Concerns that the next tranche of bailout funds for Greece may be delayed, worries about European bank funding and rising Italian government bond yields on speculation Rome may struggle to implement new austerity measures kept the euro under pressure.
The dollar rose against the yen on EBS on speculation the SNB's measures could encourage Japanese authorities to intervene in coming days. The dollar was up 0.8 percent at 77.505, well off a record low of 75.941 struck on Aug 19.
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