At the beginning of 2022, with the pandemic finally receding into recent memory, commentators would have been forgiven for foreseeing a more optimistic market outlook.
However, any sighs of relief may have been premature, as the recovery from the pandemic has given way to fresh challenges in the form of the war in Ukraine, not to mention the resultant increasingly unsteady global economy.
The Swiss economy largely retains the resilience it demonstrated during the Covid years – strong consumer spending and the removal of the last of the pandemic restrictions has helped ensure that economic growth has remained steady. However, the lingering aftershocks of the pandemic, compounded by uncertainty around the Russia-Ukraine war and the ensuing energy crisis, have seen official predictions for growth cut to 2%, down from a forecast of 2.6% in June 2022.
Riding it out
The strain on the economy may be betrayed by the steady rise in inflation over the past year, remaining above 3% in recent months, a historic high for Switzerland. This has been met by the decision from the Swiss National Bank (SNB) to raise interest rates to 0.5%, significant not only because rates have been negative for years, but also because it followed so swiftly on the heels of the SNB’s previous decision to set its policy interest rate at -0.25% in June 2022.
‘The SNB is concerned by current inflation rates,’ Juerg Bloch, investigations and enforcement partner at Niederer Kraft Frey (NKF), says. ‘The SNB was signalling in its September meeting that the interest rates will likely continue to increase in the coming meetings. The aim is to keep inflation within the range of price stability over the medium term.’
‘Mortgage debt per household is exceptionally high in Switzerland, which is significant in the context of the previously high lending volumes of banks and climbing real estate prices.’
Fabian Teichmann, Teichmann International
Positive interest rates promise a notable power shift in corporate and asset-based transactions, with sellers now holding additional leverage. Fabian Teichmann, managing partner of Teichmann International, identifies the housing market as an area likely to be affected.
‘Mortgage debt per household is exceptionally high in Switzerland, which is significant in the context of the previously high lending volumes of banks and climbing real estate prices. Variable-rate mortgage loans are impacted by the increase in interest rates, although considering the increase is moderate (0.75%), its impact is limited.’
This view is shared by NKF senior associate Simon Bühler, who agrees that while the real estate market is likely to be impacted, a sharp downturn of borrower defaults remains unlikely. He extends this positive outlook to the broader economy. ‘Currently, the general perception is that a tighter monetary policy will not have a material impact on the economy, in particular since the Swiss labour market is considered to be flexible compared to the neighbouring countries.’
‘Prior to the war, Russian banks were fairly big lenders in Europe. Now, of course, that has come to a complete stop. We don’t see Russian lending any longer.’
Marcel Tranchet, Lenz & Staehelin
Indeed, within the larger international context, it is clear that the Swiss market is weathering the year’s challenges relatively well. Tino Gaberthüel, Lenz & Staehelin’s head of corporate and M&A, observes that inflation is significantly higher across other parts of Europe and America, with the UK, for example, experiencing rates in excess of 8%.
Correspondingly, interest rates have been increased internationally. In the US these currently stand at 4.25%, while in the UK, the Bank of England voted on 3 November to increase rates to 3%. Switzerland’s position, in comparison, speaks to the notable fortitude and stability of its market.
Sanctions
A useful way of assessing Switzerland’s position on the international stage is its involvement in the EU’s sanctions on Russia. While the decision may be interpreted as a departure from the traditional stance of neutrality, Bloch observes that it was received with little surprise in the market.
‘As a small country with extensive economic ties, Switzerland has adapted to the EU framework. If Switzerland had not joined the EU sanctions, this would likely have led to considerable political and economic pressure on Switzerland.’
Adhering to the changes means that Swiss banks are now prohibited from accepting deposits from Russian nationals in excess of CHF100,000, sanctions have been introduced on oil products and coal, investments into the Russian energy sector have been banned and distribution companies are prohibited from selling restricted products to Russia.
The development and implementation of new technologies is an enduring hot topic in Switzerland. This includes cryptocurrency, for which the Canton of Zug, nicknamed the ‘Crypto Valley’, is a notable hub.
The exclusion of Russian participants in the market is already contributing to notable shifts. Marcel Tranchet, head of Lenz & Staehelin’s Zürich banking and finance group, identifies corporate finance as one area being affected. ‘Prior to the war, Russian banks were fairly big lenders in Europe, including in Switzerland’, says Tranchet. ‘Now, of course, that has come to a complete stop. We don’t see Russian lending any longer.’
Elsewhere, as in the rest of Europe, the commodities market is experiencing a slowdown. Switzerland has a strong reputation as a hub for global commodities trading and has historically seen Russian players active in the market. The loss of Russian commodities houses has had an impact, even as other nations work to fill the gap.
Private banking is another area seeing consequences. The country has long been a destination for high and ultra-high-net-worth individuals drawn to the stability and security of the jurisdiction. Among these have inevitably been a number of now sanctioned Russian oligarchs. Relationships with these clients have been terminated and relevant assets frozen.
However, the full effects of sanctions remain to be seen, and may not become apparent for years to come. The show of support for the EU and the West makes the jurisdiction less appealing for Russian clients in the future, with many now anticipating distribution, trading and banking activities permanently moving to alternative, sympathetic jurisdictions in the long term.
This is underscored by the brewing of potential disputes on the implementation of sanctions. ‘Dispute teams across the large law firms are seeing a lot of activity in that area,’ Tranchet observes. ‘Especially on long-term contracts, there’s a fair amount of disputes, or pre-litigation work going on. Questions as to whether it’s force majeure.’
Regulatory Developments
Focusing on the exclusively Swiss, one development driving activity has been a new licensing system targeted at asset managers. Implemented in January 2020, The Financial Services Act (FinSA) and Financial Institutions Act (FinIA) introduced a new requirement for all asset managers in the country to obtain licences from the financial regulator FINMA. The deadline for certification in January 2023 is now fast approaching.
Switzerland has historically been a highly active centre for wealth management, with some estimates putting the number of external asset managers as high as 2,500. However, the new licence requirement, coming as it does alongside so many other pressures, is presenting a significant challenge.
‘The licence requirements of asset managers are rather high and require a certain size in order to ensure control functions that are independent from the business functions,’ Bloch says. ‘Asset managers with small assets under management are no longer profitable due to the increased costs in order to fulfil the regulatory requirements.’
‘Banks have become more open to crypto business models and some have even specialised in this area.’
Simon Bühler, NKF
Perhaps due to this, the rate of licence applications has remained low, with more than 600 asset managers informing FINMA that they will not be seeking the licence. Market observers have anticipated an imminent consolidation in the market as a result, as asset managers strive to increase their volume to a level that allows continued operations.
Despite this, the anticipated wave of M&A transactions has failed to kick off. As Gaberthüel remarks: ‘There was talk that consolidation would start a year ago, but that hasn’t materialised yet. I think the view is still that there must be consolidation, which in my view would make sense from a cost savings perspective, but it hasn’t happened yet.’
It remains to be seen what solution the large number of still-unregistered asset managers will pursue. Further contributing to the uncertainty is the high volume of applications still under consideration by FINMA, leaving many practitioners potentially in limbo as the new year approaches.
‘I think asset managers still have to find out that life alone will be costly,’ says Gaberthüel. ‘Then we’ll think and look at different options.’
New Growth
The development and implementation of new technologies is an enduring hot topic in Switzerland. This includes cryptocurrency, for which the Canton of Zug, nicknamed the ‘Crypto Valley’, is a notable hub, with hundreds of companies active in the region.
‘The Crypto Valley has done a good job in attracting talent and companies’, says Tranchet. ‘They’ve created a good environment for companies to try out their ideas, and if they’re valuable, to pursue and market them.’
This positive landscape has even withstood the turbulence blockchain and cryptocurrency technologies have seen over the past year, with market sentiment being that this has driven a ‘clean out’ of the market, with speculators and opportunists departing, leaving only true believers and entrepreneurs.
While many may be sceptical as to the value of this sector, or its potential to achieve anything but a niche following, Bloch observes that distributed ledger technology (DLT) holds the possibility of higher dividends across the banking industry: ‘In the short term, blockchain, based on smart contracts, will enable faster and cheaper digital transactions, improve access to capital, make compliance smoother, harness identity management and the trading of digital assets.’
‘We’ve set up a procedure whereby companies that tokenise shares using CMTA standards are then certified, and so potentially investors have assurance that the tokenised shares comply with the law.’
Tino Gaberthüel, Lenz & Staehelin
The potential opportunities are indicated by the steady increase in interest from traditional financial institutions, which are now beginning to make inroads. As Bühler observes: ‘In the initial phase, banks were cautious and made it difficult or refused access for cryptocurrency and fintech providers. This was also due to the lack of access rights for third-party providers, such as those provided by the Payment Services Directive 2 in the EU. In the meantime, banks have become more open to crypto business models and some have even specialised in this area.’
Fintech solutions are also becoming normalised in the field of capital markets, with new strategies such as share tokenisation steadily gaining popularity. While the advance of technology is one reason for this, it is also crucial to acknowledge the parallel development of new regulatory measures, which aid growing investor confidence.
This is something of which Gaberthüel, a member of the Capital Markets and Technology Association (CMTA), is well aware. ‘We’ve set up a procedure whereby companies that tokenise shares using CMTA standards are then certified, and so potentially investors have assurance that the tokenised shares comply with the law.’
The pursuit of new technology applications extends beyond the relatively niche area of cryptocurrency. Digitalisation is a buzzword from the insurance industry to governmental departments.
‘In low to mid-level sophistication use cases it really is driving efficiency’, says Tranchet. ‘In companies and even in governments and law firms it really is making all of us more efficient. But the killer applications that make us humans irrelevant? That we don’t really see.’
A stable haven
Switzerland has faced significant challenges in 2022 and may expect to see more reversals in the coming years. The steadily increasing rate of inflation shows the pressure placed on the economy by the effects of the Russia-Ukraine War, following so soon after the strain of the pandemic. Those looking ahead foresee the ongoing energy crisis and the burden on businesses to repay government coronavirus era loans as presenting further difficulties.
But these are the same obstacles faced by countries around the globe, and the Swiss market has fared better than many. Recent years have made clear the uncertainties with which nations must contend, and in the face of these difficult times, Switzerland has demonstrated nothing so much as its fortitude.
Concludes Tranchet: ‘In the current environment it’s difficult even for the collective intelligence of market participants to speak to the future.’ Yet we may place some faith in the endurance of the market and its capacity for flexibility. LB