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China's yuan settings point to concerns about EM currencies


CHINA'S efforts in recent weeks to guide the yuan lower through daily fixings have been much more aggressive than traders expected, in what analysts say are moves targeted at slowing the currency's gains against emerging market counterparts.

Since mid-April, the People's Bank of China has consistently set its yuan mid-point against the dollar lower than the consensus predicted by traders' models, prompting speculation the central bank was nudging the currency downward to keep its trade-weighted basket stable.

Many yuan traders and currency strategists said their models for estimating the yuan mid-point, which previously had a high degree of accuracy, have overestimated with a deviation of around 37 pips, or hundredths of a basis point, on average in the last two weeks.

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While few analysts see any direct connection between the weakening of the yuan mid-point and China's recent trade frictions with the US, it nonetheless comes at a sensitive time for Beijing. Currency manipulation is among a range of complaints Washington has levelled against China in regards to trade. A delegation of senior Trump administration officials is set to visit Beijing this week for trade talks.

On some days, the deviation of the fixing from consensus trader expectation was as much as 94 pips - a relatively large gap given the paper-thin range in which the yuan tends to trade. Some interpreted the weaker fixing bias as an official attempt to limit yuan's gains against a basket of 24 currencies created by the China Foreign Exchange Trading System.

"As an emerging market currency, the Chinese government is unwilling to let the yuan actively appreciate against other EM currencies," said Li Liuyang, senior foreign exchange analyst at China Merchants Bank in Shanghai. He notes EM currencies have underperformed compared with developed-market currencies this year, which would hurt China's trade competitiveness against other emerging economies.

Keeping the CFETS index rangebound could allow strength in euro and yen to offset the broad weakness in the dollar, while not giving China any trade disadvantage against its emerging market peers, such as the South Korean won and Indian rupee.

Mr Li added the exchange rate relative to the CFETS yuan index has been at the high end of the central bank's comfort zone of 97 to 97.5.

By lowering the yuan's value against the heaviest weighted currency in the basket - the US dollar - the central bank could ease its appreciation against the whole basket.

The CFETS yuan index stood at 97.37 at the end of April, its highest since early February. The index is only published once a week. The yuan mid-point, around which the government allows the currency to trade as much as 2 per cent in either direction, is considered by foreign exchange market to be an official signal of the central bank's tolerance band.

Cliff Tan, Hong Kong-based East Asian head of global markets research at MUFG Bank, said his forecasts overshot official fixings by 30 pips at times during the week before last. MUFG Bank is one of the 14 banks contributing to official midpoint fixing.

While the recent heightening of Sino-US trade tensions is not a foremost factor in recent yuan fixing trends, they loom a potential driver of the currency's direction, he said.

"If we do get into a trade war, the implication remains moderately higher USD/CNY," said Mr Tan. REUTERS