SNB's Policy Crossroads: Deflation, Franc Strength, and the Path to Negative Rates

The Swiss National Bank (SNB) faces an unprecedented policy dilemma as deflationary pressures mount and the Swiss franc (CHF) hits record highs, leaving its traditional tools—interest rate cuts and foreign exchange interventions—in a precarious balancing act. With inflation turning negative and geopolitical constraints limiting its options, the SNB may be forced to revisit negative interest rates, reshaping investment opportunities in Swiss bonds and posing risks to franc-linked equities.

The Deflationary Trap

Switzerland's consumer price index (CPI) dropped to -0.1% in May 2025, marking its return to deflation as import prices fell 2.4% year-on-year. The CHF's 10% surge against the U.S. dollar since early 2025 has been a primary driver, suppressing import costs and exacerbating disinflation. The SNB's latest projections forecast average inflation of just 0.2% in 2025—a stark contrast to its price stability mandate—and analysts at ING suggest further rate cuts, potentially to -0.25% by year-end, are inevitable.

The Limits of FX Interventions

Historically, the SNB combatted franc strength by selling CHF and buying foreign currencies. However, geopolitical tensions have curtailed this strategy. The U.S. Treasury's 2020 designation of Switzerland as a “currency manipulator” lingers as a cautionary tale. While the SNB's June 2025 statement reaffirmed its readiness to intervene “as necessary,” the omission of terms like “significantly overvalued” from its policy language signals a shift. Analysts note that renewed interventions risk triggering U.S. tariffs, making them a politically fraught last resort.

The Path to Negative Rates

With FX interventions constrained, the SNB is leaning on interest rates. The June cut to 0% was a prelude to deeper measures. Charlotte de Montpellier of ING argues that the SNB may have no choice but to reintroduce negative rates to stabilize inflation. A shows yields hovering near zero, with further declines likely if deflation persists. This could boost bond prices—despite negative yields—as investors flee risk assets during uncertainty.

Investment Implications

Opportunities in Swiss Bonds:
While Swiss government bonds carry negative yields, their price sensitivity to rate cuts makes them a defensive play. A highlights Switzerland's unique position. Investors seeking insulation from deflation and franc strength might overweight Swiss bonds, betting on capital gains from rate cuts outweighing negative coupons.

Risks for Franc-Linked Equities:
Companies exposed to exports or tourism face headwinds. A strong CHF erodes profit margins for Swiss exporters, such as pharmaceuticals or machinery firms, while tourism revenues suffer from weaker foreign demand. A underscores the inverse relationship: franc strength correlates with equity underperformance. Sectors like banking and real estate may also struggle as negative rates squeeze net interest margins and dampen construction activity.

Conclusion: Navigating the SNB's Crossroads

The SNB's constrained toolkit leaves investors with a clear calculus: deflation and franc strength are likely to dominate the policy landscape. Bonds, particularly short-term government debt, offer a haven amid uncertainty, while franc-linked equities demand caution. Investors should consider hedging equity exposure to CHF volatility or exploring inverse currency ETFs to offset losses. As the SNB's dilemma deepens, the path to negative rates—and its ripple effects—will define opportunities in Switzerland's financial markets.

Final Note: Monitor the SNB's September 2025 meeting for further rate cuts and geopolitical developments. A weaker USD or a resolution of U.S.-Swiss trade tensions could ease franc pressures—but until then, bonds remain the safer bet.