CNH Tracker-Devaluation fears grow amid China currency drop

Reuters

By Saikat Chatterjee HONG KONG, May 8 (Reuters) - The recent weakness of the Chinese currency has fanned debate on whether a currency devaluation is on the cards.

The reason for this line of thinking is fairly well known.

Faced with few options without fueling a buildup to the pile of non-performing loans, Beijing may weaken the currency by buying dollars, throwing its exporters a lifeline and using the growth pickup and surge in yuan interbank liquidity from its aggressive intervention to clean up the banking system.

A currency devaluation would not be a first. In 1994, China devalued the yuan by a third to 8.7 per dollar and with economic growth forecast at its lowest rate of expansion in more than two decades at 7.3 percent in 2014, it may be time for a fresh round of devaluation.

Daily fixing patterns by the People's Bank of China, the country's central bank which serve as guideposts for currency trading, show authorities have actively sought a weaker renminbi in recent days.

In April, the Chinese renminbi fell by 0.7 percent against the dollar, taking its year-to-date losses against the greenback to more than 3 percent and wiping out all its gains for 2013 and nearly 2012 as well.

Currency markets attribute the yuan's weakness to the weaker than forecast mid-point fixings by the central bank around which the currency is allowed to trade 2 percent on a daily basis.

But the reality may be more mundane. Faced with large speculative bets focused on a stronger currency at the start of the year, China's central bank has sought to flush out these positions by weakening the currency actively this year.

Those speculative trades in the disguise of hot money inflows have hardly slowed despite the yuan's dramatic fall in recent weeks. In March, Chinese banks posted a $40.2 billion surplus in spot foreign exchange transactions, slightly below February's big surplus indicating robust capital inflows.

But that may start to slow. Market estimates for the currency are being rapidly revised lower, indicating the yuan's current round of weakness may be nearing an end as China's central bank becomes more confident it has successfully broken the spell of appreciation expectations among onshore companies.

"The yuan's drop this year is a tiny fraction of the gains it has made over the last few years and is aimed at speculative positions," said Eric Yum, head of CNH and HKD trading at JP Morgan in Hong Kong.

HSBC, for example has revised its yuan estimates to 6.14 per dollar by the end of 2014 from 5.98 previously, while a Reuters poll showed that short positions on the Chinese currency have grown in recent weeks.

And while the Chinese economy is far larger than in the 90s, it is also a far more open economy, which means if expectations of extended yuan weakness become entrenched, it could lead to large destabilising capital outflows.

Those outflows may come at a delicate time for authorities, especially when China has increased efforts this year to reform capital markets and promote the renminbi in global trade.

CHART OF THE WEEK: http://link.reuters.com/har78v The wider currency band has injected a fresh round of weakness for the Chinese currency. In recent days, the renminbi has floated towards the weaker end of the band.

WEEK IN REVIEW: China's only listed bad debt management firm Cinda Asset Management raised $1.5 billion in dual-tranche U.S. dollar debt this week. The funds will be used to boost funding lines as the Chinese economy slows. The company raised offshore yuan debt in December.

The Export-Import Bank of China is returning to the offshore yuan bond markets. It released guidance on a three-part "dim sum" bond offering this week indicating demand remained robust for quality paper. It sold 4 billion yuan of debt in January.

China's central bank said this week it would keep monetary policy steady while introducing greater yuan flexibility. About a third of respondents in a survey conducted by the central bank expected the yuan to depreciate in the next half-year, while 66.9 percent believed the yuan would appreciate, the central bank said.

RECENT STORIES: CNH Tracker: http://link.reuters.com/fys77t HK central bank says time right to raise yuan conversion cap More stories about the CNH market Daily onshore yuan reports Daily China money market reports Offshore yuan rate Onshore yuan rate Offshore yuan dealt Onshore yuan on CFETS THOMSON REUTERS SPEED GUIDES (Additional reporting by Nethelie Wong; Editing by Kim Coghill)

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