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Hong Kong dollar gone wild: 0.6% surge shocks sleepy market

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In a year of currency surprises from Turkey to Argentina, add another shocker to the list: a 0.6 per cent rise in Hong Kong's dollar.

[HONG KONG] In a year of currency surprises from Turkey to Argentina, add another shocker to the list: a 0.6 per cent rise in Hong Kong's dollar.

The former British colony's sleepy foreign-exchange market suddenly came to life on Friday, propelling the local dollar to its biggest gain in 15 years. In a city that keeps its currency on one of the world's tightest leashes, swings greater than 0.4 per cent have only happened three times since a trading band was widened in 2005.

"The strengthening came as a huge surprise," said Mingze Wu, a Singapore-based trader at INTL FCStone Global Payments.

The trigger for Friday's gain is still something of a mystery. Theories include rising local borrowing costs, a buying stampede by short sellers hit with stop losses, and position adjustments before upcoming holidays in Hong Kong and China.

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What's clear is that traders are bracing for more volatility: a gauge of expected price swings derived from the options market doubled on Friday. Potential catalysts for further turbulence include an expected Federal Reserve interest rate hike later this month and an increase in Hong Kong banks' so-called prime rate - something that hasn't happened since 2006.

The Hong Kong dollar, which is subject to a trading band of HK$7.75 to HK$7.85 versus the US currency, has been stuck near the weak end of that range for the past six months as the city's low interest rates made it profitable for traders to sell the currency and buy higher-yielding assets in the US.

That dynamic may now be starting to change: the difference between the city's three-month interbank borrowing costs and those of the US has narrowed by nearly one percentage point since March, when the gap reached its widest in a decade.

On Friday, the currency climbed as much as 0.6 per cent to HK$7.7930 per greenback, the strongest level since November. The Hong Kong dollar's three-month interbank borrowing cost, known as Hibor, jumped to the highest level in nearly a decade.

"Traders may have come to believe the interest rates will keep rising, with some of them unwinding short-Hong Kong dollar carry trades, and that triggered stop losses and a stampede," said Tommy Ong, managing director for treasury and markets at DBS Hong Kong Ltd. His short-term forecast for the exchange rate: somewhere between HK$7.80 and HK$7.83.

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