Yuan drops as the PBoC starts pulling strings

Some interesting developments are starting to take place in China at the moment, as we witnessed its central currency tumble yesterday.

The drop in the yuan yesterday was the biggest fall in three years, as the PBoC looks to ward off speculators ahead of the expected widening of the currency’s trading band, and it looks to be part of the changes to financial regulation to emerge from the Third Plenum.

What is even more interesting is that the spot rate finished below the central bank’s fix rate for the first time since September 2012. Considering the trend so far this year is for the spot rate to finish at an average of 0.77% higher than the fix rate, is this a change in momentum?

Having seen the CNY appreciate 35% against the greenback since the relaxation of the peg system in 2005, this looks to be an indirect move for a weaker currency to minimise the current perception of one-way bets on the yuan’s appreciation. 

The current system only allows a 1% deviation from the ‘fix’; expectations from the investment world is that this range will double to 2% as the PBoC looks to transition in an orderly manner to a ‘freer’ spot rate in the coming weeks; it will make spot trading move volatile, which is something the PBoC actually wants on current information.

There is also an equity and macro perspective to the currency movements that could be seen as a markets risk. The weakening currency could be seen as a signal that the recent economic data from China is an indication that the economy is slowing. With speculation mounting that further shadow banking outfits will default over the coming months, coupled with the a housing market that is now at its lowest level in eight months, the reversal in the currency’s appreciation which has now fallen for six days straight is a concern from an Asian-centric point of view.

What amplifies the trade issue is property developers that have borrowed in USD will be seeing loan repayments increasing and investment grades decreasing which could lead to increasing fund repatriation and further strain on commodity prices and property investment if they start to sell out of positions.

This will be an interesting situation over the coming weeks as retrospective data from February is released which will be affected by the Chinese Luna New Year. If the currency falls, further risk theory will gain even more momentum and will be a trading factor.

Ahead of the Australian open

We are currently calling the ASX 200 down 13 points on the 10am bell (AEDT) to 5421. Having seen the market making an intra-day six and half year high before sharply revering, I reiterate that the market is likely to trade in a sideways band around the 5450 level, as dividends and China concerns put downward pressure while the leads from the US put upward pressure.

I feel the downward pressure from the bears may exhaust the bulls’ current enthusiasm, unfortunately. 

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