Offshore Yuan Trading Faces Cash Squeeze, Hurting Bearish Bets

The offshore yuan faces funding pressures in Hong Kong, making it costlier to bet against China's managed currency. The PBOC is taking steps to stem yuan losses, but bearish bets persist amid economic concerns.

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Geeta Pillai
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Offshore Yuan Trading Faces Cash Squeeze, Hurting Bearish Bets

Offshore Yuan Trading Faces Cash Squeeze, Hurting Bearish Bets

A yuan funding costs is emerging in the yuan's largest offshore trading center, Hong Kong, making it more expensive for traders to bet against China's managed currency. The key gauge measuring the cost for banks to borrow the yuan in Hong Kong, known as Hibor, has risen to approach the highest level since 2018.

The cash squeeze has made it more difficult for traders to short the yuan, leading to a decline in bearish bets against the currency. While it's unclear if Chinese authorities are behind the funding squeeze, they have targeted draining offshore liquidity in the past to punish traders speculating against the yuan.

The People's Bank of China has also moved to allow for some moderate yuan weakness, as widening yield differentials between the US and China underpin yuan softness. China's economy grew faster than expected in the first quarter, though signs of weakness in the troubled housing market persist.

The offshore yuan (CNH) was trading 0.29% away from the onshore spot at 7.2603 per dollar on Wednesday. The People's Bank of China set the onshore yuan (CNY) reference rate for the trading session ahead, with the previous close at 7.2380. The central bank has also injected 2 billion yuan via 7-day reverse repurchase agreements, while keeping the rate unchanged at 1.8%.

The Chinese yuan traded lower against the US dollar on Wednesday, hitting a five-month low of 7.2422 per dollar. The decline was driven by comments from US Federal Reserve Chair Jerome Powell indicating that interest rates could stay higher for longer, putting pressure on Asian currencies.

The People's Bank of China unexpectedly weakened its yuan defense on Thursday, setting a weaker daily reference rate for the managed currency. This implies some flexibility for the yuan amid dollar strength to depreciate alongside regional peers amid broad strength in the dollar. The offshore yuan slid as much as 0.3% to its lowest level since November in reaction to the PBOC's move.

The Chinese central bank has ramped up efforts to stem losses in the yuan by offering stronger-than-expected daily reference rates for the managed currency. The PBOC set the yuan's fixing at 7.2076 per dollar on Thursday, compared to an average estimate of 7.2994 in a Bloomberg survey, the largest gap since October.

However, yuan bears seem to be sticking to their guns, with one-month offshore dollar-yuan risk reversals jumping to the highest since May. The PBOC has the tools and experience to maintain orderly functioning of the foreign exchange market, but the yuan's fixing is becoming less useful as traders lose patience with China's underwhelming economic data.

The central bank may need to take further measures, such as reducing banks' foreign exchange reserve requirements, to prevent a rapid depreciation in the currency. The situation highlights the challenges faced by traders in the offshore yuan market, where liquidity and market conditions can be volatile and unpredictable.

As of April 17, 2024, the offshore yuan continues to face pressure from a resurgent dollar and poor sentiment. The People's Bank of China is attempting to limit yuan losses through stronger-than-expected reference rates and liquidity measures, but bearish bets persist . Traders are closely monitoring the situation and the PBOC's actions to maneuver the challenging market conditions in the offshore yuan trading hub.

Key Takeaways

  • Yuan funding costs climb in Hong Kong, making it harder to short the yuan.
  • PBOC allows some yuan weakness amid widening US-China yield differentials.
  • PBOC unexpectedly weakens yuan defense, setting weaker daily reference rate.
  • PBOC offers stronger-than-expected yuan fixings to stem losses, but bearish bets persist.
  • Offshore yuan faces pressure from resurgent dollar, PBOC takes measures to limit losses.