LONDON Dec 23 China's weakening yuan is
threatening a reprise of the storm that dominated world markets
at the start of 2016, with Beijing's ability to stamp on
short-term speculators undermined by a broader consensus among
major global investors that the currency will fall.
Hedge funds have been chastened by the squeeze on
speculative investors orchestrated by Chinese authorities last
January, but many of the underlying pressures on the currency
remain and the early signs of tensions to come with U.S.
President-elect Donald Trump has upped the ante.
Beijing's ability to hold the currency stable over the next
six months may not be in doubt but it will likely spend big
again in doing so and, counter-intuitively, the lack of explicit
speculation may make the pressure more difficult to defuse this
A year ago, China spent the best part of six months fighting
running battles to support the renminbi in the offshore market
where the currency is allowed more room to move and which
provides a leading indicator for its more tightly controlled
Much of that pressure, relieved after Chinese New Year in
February, stemmed from Chinese firms closing out "carry trades"
based on higher domestic interest rates and the yuan gains that
were a one way bet for most of the past decade.
As that effect waned, Beijing was able to quash a group of
fund managers, some veterans of the 2008 big shorts of the U.S.
mortgage market, who took George Soros-style bets in the options
market on officials being forced into a one-off devaluation.
But this time, a number of measures suggest the weaker yuan
trade is regarded as both a more certain bet and one supported
by a more conservative group of long-term "real money" investors
who tend to only jump on bigger consensus trends.
"Being bullish on the dollar as we are, we see the renminbi
continuing to weaken next year," said Roger Hallam, who manages
$260 billion in exposure as JPMorgan Asset Management's head of
currency management in London.
"We are at 6.90 (yuan per dollar) now. If you look at the
3-month forward it says (we will reach) 7.0. So something closer
to 7.25 next year is not unreasonable."
Sales desks at banks say major U.S. and European investors
have laid large bets in currency options over the past month,
with strikes ranging from 7.25 to 8.00 yuan per dollar, coming
due in six months to a year.
Goldman Sachs last month made a fall to 7.30 per dollar one
of its handful of big market bets for 2017.
Yet in a market where daily moves in the dollar against the
euro or yen in the past six months have often topped 1 percent,
fund managers say entering at the right time is crucial to
making a profit on the yuan's more controlled fall.
Even if the yuan falls to 7.25, that would only be around a
4 percent fall from current levels - a quarter of what the yen
has fallen against the dollar in the past five weeks.
James Kwok, head of currency management at France's Amundi,
has been betting against the yuan since the dust settled on last
January's moves and he thinks it will fall again next year. But
he said earlier this month he had cashed out for now.
"We closed our short position in Chinese yuan recently," he
said. "I don't think in any single year the currency can go so
far when the current account surplus is still there."
Underlying the banks' forecasts and the positions being
taken is the confidence generated by Beijing's ability to quell
a harder fall in the yuan a year ago.
Authorities there have been open about the need to let the
currency depreciate but also stressed they would prevent any
kind of disorderly move. So far so good.
But the comparisons to a year ago are also growing. An $87
billion fall in the country's currency reserves in November last
year - a sign of the volume of dollars it has to sell to stop
the yuan crashing - prefaced drops of $100 billion or more in
December and January that spurred selling by foreign players.
This time round, the fall in November was $69 billion, more
than double economists' forecasts and a sign the central bank
was again weighing in heavily. Further moves to ease stress in
yuan money markets have followed.
"There's not the same euphoria as there was in January,"
says Richard Benson, co-head of portfolio investment with
currency fund Millennium Global in London.
"So many people got their fingers burnt and they have
clearly been trying to engineer a December calm. For us it is a
reasonable opportunity. A slow and gradual depreciation. It's a
simple dollar bull trade, played through offshore forwards."
Some of President-elect Trump's noises off on China in the
past fortnight - and Beijing's robust responses - have given
those with more measured views cause for alarm.
There are signs of stress on debt markets. Since the U.S.
Federal Reserve raised rates a week ago, 10-year Chinese yuan
bond yields are up almost 40 basis points, while the Turkish and
Mexican equivalents are almost flat.
Whereas at the start of this year, there was still appeal
for Chinese investors in a booming domestic property market, now
Beijing is now also seeking to cool overheated house prices.
"You don't usually think of China being in that pocket of
vulnerability," says UBS strategist Manik Narain.
"But this time as the likes of Mexico and Indonesia have
settled down China has been definitely been more volatile. It's
not clear what the best options for them are but the least
painful tool is to intervene in the offshore CNH market and
tighten cap controls."
(Additional reporting by Sujata Rao and Richard Pace; Editing
by Toby Chopra)