Inflation, the Economy and Interest Rates
Inflationary pressures observed worldwide in 2022 and 2023 appear to have eased as inflation rates in advanced and emerging economies have halved on average, whereas in Switzerland it now stands at 1.4%. However, as inflation rates are still above the targets set in most countries, central banks have consistently implemented monetary tightening regimes and raised policy interest rates over the past two years. While the Swiss national bank has cut interest rates as first mayor bank, both the FED and the ECB have signalled a slower than expected easing of their respective monetary policies in recognition of the persistent inflation rates above policy targets. The economic growth has accordingly remained slow.
Market Performance
Swiss capital markets
In 2023, the SIX Swiss Exchange experienced its lowest level of activity in more than a decade, with a 13.4% drop in turnover and a 24.2% decrease in transactions compared to 2022, with only ten new equity listings registered. Existing issuers raised around CHF 8.3 billion through capital increases, while 436 new bond issues, mostly in Swiss francs, totalled around CHF 116 billion. Trading in green and social bonds increased, reflecting the growing interest in sustainable finance. The pending integration of Credit Suisse into UBS will have a significant impact on Swiss capital markets.
Optimism in the Swiss banking sector
The EY Switzerland's Banking Barometer 2024 signals optimism in the banking sector, with an overall positive assessment of 2023 and confidence in the outlook for 2024. Swiss banks recorded an increased profitability in 2023 and are expecting that impairment losses on residential mortgages and SMEs will remain low.
New SIX Disclosure Rules
On 1 November 2023, SIX Exchange Regulation revised its Listing Rules, the Directive on the Disclosure of Management Transactions and the Directive on Ad hoc Publicity with effect from 1 February 2024. Issuers are now subject to increased reporting requirements for management transactions with related parties. This includes equity securities and financial instruments between board members, senior management and their related parties. Further, annual and interim reports of issuers of SIX-listed bonds or debt instruments are no longer automatically ad-hoc relevant. Issuers must determine whether these reports contain price-sensitive information that must be disclosed in accordance with Article 53 of the Listing Rules.
An International Minimum Tax
An important development for Swiss issuers, borrowers, and lenders is the implementation of international minimum tax rules. In December 2021, the OECD agreed on reforms (Pillar Two) to ensure an effective tax rate of at least 15% for multinational companies with a turnover of at least EUR750 million. This includes the Global Anti-Base Erosion Rules (GloBE Rules) with the Income Inclusion Rule (IIR), the optional Qualified Domestic Top-up Tax (QDMTT), and the Undertaxed Profits Rule (UTTPR). Switzerland joined 139 other countries in committing to implement the second pillar. The necessary constitutional amendment was approved on 18 June 2023. On 22 December 2023, the Federal Council decided to implement the QDMTT from 1 January 2024, with the IIR and UTTPR to be decided later.
The Rejection of the Swiss Withholding Tax Reform – A Missed Opportunity
In 2022, Swiss voters rejected a proposed reform to abolish withholding tax on interest payments, maintaining the current system. Unlike many countries, Switzerland doesn't impose withholding tax on interest for private and commercial loans. However, a 35% federal withholding tax is levied on interest paid to Swiss or foreign investors on certain types of bonds. The reform aimed to eliminate this tax, but it was rejected by voters. Consequently, bonds issued by Swiss entities remain unattractive to foreign investors, and certain regulations, like the Swiss 10/20 non-bank rules, continue to affect loan financings for Swiss borrowers and guarantors.
L-QIF
Switzerland has created a new fund category that is intended to compete with other international fund domiciles. The new fund category, Limited Qualified Investor Fund (L-QIF), was implemented on 1 March 2024. The L-QIF is a collective investment scheme that is only open to qualified investors according to the Swiss Collective Investment Schemes Act (CISA). However, the offering of a L-QIF does not require FINMA authorisation or approval since it is exempt from direct FINMA supervision. Instead, L-QIFs are subject to indirect supervision as CISA requires that an L-QIF must be managed by a FINMA-supervised entity. The fund must be therefore structured under the legal form of either a contractual investment fund, an investment company with variable capital (SICAV), or a limited partnership for collective investment, whereas an investment company with fixed capital (SICAF) is not eligible for this purpose. This structure allows for the absence of mandatory product approval, licensing or direct supervision by FINMA, and consequently offerings within a short time frame. This flexibility and improved time-to-market shall strengthen Switzerland's competitiveness in the area of fund domiciles as the L-QIF makes for a suitable substitute to the Luxembourg Reserved Alternative Investment Fund (RAIF). The disadvantage of the remaining withholding tax of 35% applies on fund distributions and reinvestments of Swiss taxable income remains too, with few exceptions.
ESG Reporting and Due Diligence Requirements in Switzerland
In November 2020, the "Responsible Business Initiative" was rejected, and instead, EU-style ESG reporting and due diligence requirements were added to the Swiss Code of Obligations, effective from 1 January 2022 for the 2023 financial year. These requirements, modelled on the European Non-Financial Reporting Directive (NFRD), apply to Swiss public interest companies with over 500 employees and either CHF 20 million in assets or CHF 40 million in revenue. Companies must report on environmental, social, labour, human rights, and anti-corruption measures, detailing their business model, ESG concepts, due diligence procedures, and effectiveness. The "comply or explain" approach allows companies to omit irrelevant topics based on investor expectations. For climate disclosure, the Swiss Federal Council's Ordinance on Climate Disclosures, effective 1 January 2024, requires in-scope companies to disclose climate risks per TCFD recommendations. The largest banks and insurers have had similar obligations since July 2021 under FINMA Circular 2016/1. FINMA is also consulting on a new circular for "nature-related financial risks", effective 1 January 2025.
Evaluation of the "Too-Big-to-Fail" Regulation
In recent years, alongside the global surge in government debt, companies have significantly increased their debt ratios. This trend's economic impact was evident in 2023, with corporate defaults rising by 80%, from 85 in 2022 to 153. The US led with 63% of global defaults, while Europe accounted for 30. Notable defaults included WeWork, Covis, and others. Looking ahead to 2024, S&P forecasts further global credit deterioration, particularly among lower-rated issuers. Financing costs are expected to remain high, with maturity walls looming for speculative-grade debt in 2025-2026.
In Switzerland, economic slowdown, falling share prices, and higher interest rates have posed challenges, especially for companies reliant on government aid during the pandemic. Corporate insolvencies rose by 8% in the first three quarters of 2023, totalling 3,845 filings compared to 3,552 in 2022. However, most Swiss banks surveyed expect lower SME credit defaults in 2024. Despite the increase in insolvencies, there has been a slight uptick in new business incorporations.
Originally published by Chambers and Partners
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