Avoiding negative CHF credit interest and protecting against inflation

I just want to show you here how you can avoid negative interest on IB and how you can protect your cash against inflation.

I have a CHF IB account with about 1M CHF.

  1. I sell all CHF and buy USD by doing a USD.CHF forex trade. On the bottom line of the account page I see now that my CHF balance is about zero. I however have now a huge USD position and I want to avoid the currency risk.
  2. I hedge my USD position by buying CHF Futures (or the micro MSF Futures) so that the USD amount more or less offsets my USD position. If you buy CHF Futures, you have to roll then every 3 Months by selling the old Future and buying the Future with the next higher expiry date. The new CHF Futures are always slightly more expensive (roll yield) which is due to the negative interest rate. There is no way to avoid this negative interest rate totally, but the roll yield is about 0.25% lower than the IB negative CHF rate.
  3. Now I buy with all my US$ the short-term inflation protected Vanguard VTIP ETF. This one will make about 6% per year with very little risk. After this trade my USD position is about zero. Because this is a very safe ETF, the maintenance margin used to buy it is only 20% so I still can do my normal trades. As I mainly trade futures (like ES or MES for the SP500) or options on futures which do not use much margin, I never exceed 40% margin being fully invested.
    Sure you can also buy other ETFs like the VT ETF instead of VTIP, or you do a mix. The good thing is that your VT position is now currency hedged.

All together VTIP is a very nice ETF for Investors which want to preserve their money against inflation. Due to very low margin requirements you can combine it with your normal investments. So on my 1M account I am invested with about 1M in VTIP and with another 1M in equity and other more volatile assets. It looks like a 2x leveraged account, but it behaves like a normal 1x leveraged account because of the very low volatility and risk of VTIP.

Happy new year! And pls. tell me how you avoid negative CHF interest.

Regards Frank

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Only in 2021 right (and even there it was closer to 5%)? Since 2012 it made 1.8% per year on average.
https://investor.vanguard.com/etf/profile/performance/vtip

VTIP is only a good base investment if we have inflation like now. So it makes no sense to do averages with “no inflation” years in it.

So your goal is to market-time inflation when it makes sense? Because the negative interest rate have been there since 2015.

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The companies in VT have revenue from all over the world in all kinds of currencies. I don’t think currency hedging of stock makes sense in general (unless you want to simultaneously bet e.g. on CHF), however, hedging a global ETF 100% from USD to CHF sounds like a really bad idea. Or am I misunderstanding your statement?

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I was under the impression that the price of TIPS was affected by inflation expectations (when people expect higher inflation, they buy more TIPS, pushing the price up (more demand) and the yields lower (so that, for the duration of the bond, TIPS would outperform only if inflation is higher than expected, and not just merely high).

For example:

  • If you bought VTIP on the 31st of December 2020, you would have been up 5.36% in 2021.

  • If you had waited for March CPI data to be available (by mid April), registering higher than 2% inflation (2.62%), you would have been up an impressive annualized 11.87% by the end of 2021 (congrats! Good timing! The YoY comparison was with a deprimed March 2020, so longer term inflation was still supposed to be very low).

  • If you had waited one more month, for the CPI release to indicate 4.16%, you would have been up an annualized 5.92% by the end of 2021.

  • If you had waited for October CPI data to be out (at 6.22% YoY), you would have been down an annualized -1.37% by the end of 2021.

  • If you had waited for JPow (Jerome Powell) to retire the term “transitory”, by the end of November, you would have been down an annualized -8.82% by the end of 2021…

As with most things in the markets, you not only have to be right, but you have to be right before it becomes mainstream. You have to be invested before inflation starts really rising.

Edit: all returns in nominal USD.

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VTIP returns 0.3% per year with 0% core inflation. To these 0.3% the actual US core inflation is added. So, it is market timing, but without much of a downside risk. If inflation would suddenly go to 0% again you would still get the 0.3% VTIP yield to maturity. It however certainly helps to cover the CHF Futures hedging cost.

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According to Vanguard Mutual Fund Profile | Vanguard the SEC yield as of 12/30/2021 is -2.80%. You’re correct that this is a real yield where inflation is added. However, the real yield is still deeply negative.

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You may be right for the long term, however the fluctuating USD/CHF forex rate introduces a lot of short term volatility into your investments. For example in 2020 the US$ lost 10% against the CHF. This would have reduced your 15% VT performance to 5% calculated in CHF. We have a small hedge fund (Rational-Invest AG) and as a fund manager of a low volatiliy/risk fund you can not explain such a performance to your investors.

You cannot use the SEC yield calculation for TIPS as it takes not to account the adjustment of the Treasury principal. VTIP returned 5.36% last year with a 2% volatility. This is a Sharpe (=risk adjusted return) ratio of 2.57 which is higher than the 2.2 of the SP500 SPY ETF. SPY had a volatility of 13%. It means that a SPY investment is 6.5x mor risky.

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The price that you pay for your VTIP share matters. It has to, because the fund is not paying out (0.3% + inflation) interest rate on top of the price that you’ve payed. It’s (0.3% + inflation) on top of the principal value of the underlying bonds.
So, the price of the ETF is not fixed, it is set by market participants, all guessing what the resulting payout will be in the end (i.e. what the actual inflation will be in the future). If they expect higher inflation they’ll be willing to pay more for the same asset, and if the inflation rate actually materializes at 6% you won’t see those returns because the price is already too high.

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That’s nominal, it would translate to -1.45% real for someone living in the U.S.

You’re right, though, that our expenses aren’t (directly) linked to inflation in the U.S. and that it is the forex variations that matter. I’m not sure I understand the underlyings of your proposal.

For once, I’m not sure what problem you are trying to solve. Is it obtaining returns on our cash/bonds assets denominated in CHF without increasing risk? If that’s the case, wouldn’t just using no fees savings accounts with 100’000 CHF max at each bank serve this purpose? Because you’re otherwise adding the US inflation rate into the equation which poses other unwanted fluctuations.

If it’s only about not paying fees to IB for CHF held at IB, then why keep those CHF there and not just transfer the required amount right before a purchase?

Then I don’t understand your actual proposal, let me try to rephrase it: you are using your CHF amount at IB to buy CHF futures. You then go on margin, to the amount of 20%, to buy VTIP. Correct?

Is the 20% margin calulated on all your assets at IB or just the CHF futures?
Isn’t the use of margin adding:

  1. Interest rates that you have to beat (and wouldn’t have to if simply using a no fee CHF bank saving account).
  2. Additional risk that could be avoided?

In the end, what are the risk-adjusted benefits that would justify a higher yield than the negative risk free rate in CHF that you would obtain by simply hedging a risk free bond fund in another currency (make it US nominal treasuries to stay in the theme)?

Edit:

Is this solution meant to be used by fund managers who can’t just pile CHF in bank accounts but have to use bonds? If so, why on earth would you share your trade secrets here instead of selling your fund to institutional investors that would then sell their solutions to us? I like y’all, but we also have to make a living. I wouldn’t trade my secrets here if I could sell them.

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By not having any cash.

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Neon is not charging me up to 100k
UBS is not charging me up to 250k
ZKB is not charging me at higher amounts (no strict limit other than a vague warning that they could charge interest if they see unusual inflows)

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Sure, you can buy just a Swiss currency hedged SP500 ETF and you have no other work to do, but with an IB account you have the opportunity to do the same using the most efficient instruments which exist. Futures are extremely liquid and traded around the clock. You have no stamp duty, smaller spreads and commissions and also the currency hedging is cheaper if you do it yourself. Combined with the inflation protected VTIP ETF you can get a 3-5% higher yearly return than with a Swiss ETF and this really makes a big difference over the years. However, for me the most important is, that I do not want to wait until the market opens to liquidate my position if something really bad happens. Also during the first Covid drawdown I saw that it was impossible to trade these Swiss ETF as there was no liquidity, so such a position just increases risk.

I’m sorry but I’m still not sure I understand what problem you are trying to solve. Most of us, here, are using IB as a broker and few are trading swiss ETFs as the main part of their portfolio, if they even hold any. Buying US ETFs on IB is very old news, trading futures is just a step further adding leverage and some element of a bet.

You are now talking about liquidity and, indeed, there has been a liquidity crush during the Covid drop (speaking of liquidity and futures, how did those oil futures go back then, since we are gleefully jumping from asset class to asset class), but you went from avoiding negative CHF interest on IB (which we can do by not holding CHF on IB), to protecting against inflation by using VTIP (which would protect us against US unexpected inflation, without real relation to the one we are actually subject to, which is actual inflation in Switzerland/other country we spend in), to now assets liquidity.

The vast majority, here, are individual investors, we don’t face many liquidity problems, we can hold our cash on bank accounts and don’t have to explain forex induced performance drops to our clients since we are our own clients and understand that we are investing for the long run and that those drops are perfectly acceptable, especially if they mean we don’t incur additional expenses related to currency hedging our stocks (I’d wholheartedly hedge my bonds but I don’t see a reason to hedge stocks).

I really don’t get it and am sorry to ask again but are the problems you are trying to solve relevant to retail investors (in which case, what are these specific problems that you are trying to solve? Because the solutions you’ve proposed this far seem to me like they ignore the market adjusting pricing as new elements become expected - so can really work only if they are applied before the risk they’re protecting from show up, at which point, believing in that risk materializing has an element of bet) or do they really mainly affect institutional investors and fund managers, in which case, why are you exposing your strategies here?

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Seems it is meant to be combined with other assets, not looking at it in isolation.

Here a bit more about the strategy:
https://www.rational-invest.com/investment-philosophy/principles/

I assume you know you already but just in case: buying VTIP means buying inflation expectations… so inflation rate in the future will surprise (vs consensus) to the upside. That might happen but given the recent jump in inflation rates that is far from guaranteed (expectations are already somewhat high).

To keep 1m safe -while accepting- some risk, I would probably buy a basket of super low vola chf equities.

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I just want to say that you should not ignore currency risk as a Swiss investor unless you only invest in the Swiss Market. The risk is high. Just as another example. The European Stoxx600 had a performance of 25% from its 2007 hights. However if you ignored currency risk and just invested in a EUR Index ETF you lost 37% because of Euro depreciation. If on top of this, you consider inflation then you lost about half of your money even with the Euro Stoxx index up by 25%.

You didn’t (or wouldn’t). Because you would have received dividends.

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