Offshore yuan borrowing costs spike to 110 pc as PBOC beats back short sellers

Offshore yuan appreciates up to 2 per cent in two days while onshore yuan hits an 11-month high amid liquidity drain

PUBLISHED : Thursday, 05 January, 2017, 3:30pm
UPDATED : Friday, 06 January, 2017, 2:18am

Hong Kong’s offshore yuan borrowing costs shot up to 110 per cent on Thursday, reflecting the highest level in a year as the People’s Bank of China took action to beat back sellers of the currency.

The central bank’s intervention drove the offshore yuan in Hong Kong up 1.18 per cent on Thursday to an intraday high of 6.7845 per US dollar before it staged a turnaround, easing back down to 6.8316 in evening trading, but still up 0.67 per cent after rising 1.3 per cent on Wednesday.

King International Futures chief strategist Jasper Lo Cho-yan said offshore yuan liquidity dried up substantially on Thursday afternoon as traders struggled to find yuan to cover their short positions while mainland banks held back from selling yuan in the market.

The Hong Kong Interbank Offered Rate for offshore yuan, known as the CNH Hibor, shot up to 110 per cent in late afternoon on Thursday, the highest level since January 13 last year when the rate briefly touched 200 per cent before later easing to 90 per cent.

Thursday's market rate was significantly higher than the official morning fix by the Treasury Markets Association at 38.33 per cent, which is more than double the 16.95 per cent fix on Wednesday, already a three-month high.

“This is widely believed to be the intervention of the PBOC in the offshore yuan market to drive interest rates up to add costs to the yuan short sellers,” Lo said.

“This was a repeat of what happened in January last year when the PBOC took action to drive away currency speculators,” Lo said. “The Chinese New Year is approaching which also led to liquidity drying up of the market.”

But Lo said the worst is likely over as he believes the PBOC would not keep the rate at a high level as doing so would impact stock markets and other assets. “The CNH Hibor will remain high but not above 100 per cent for long,” he said.

A Hong Kong Monetary Authority spokesman said although the rate is high, market operations have been smooth in the offshore yuan market on Thursday.

The onshore yuan rose by the most in 11 months, hitting 6.8817 against the greenback as of 4:30pm. That’s 668 basis points stronger than Wednesday’s closing price, lifted by bullish sentiment spilling over from the offshore market.

The yuan has reversed direction for the time being, amid speculation that foreign exchange regulators may be considering more draconian measures to stem the flight of capital from mainland China. On Wednesday night, offshore yuan surged by the most in a year as traders scrambled to square their short positions.

By Thursday early morning, the offshore yuan had risen 1.3 per cent, or 930 basis points, to reach 6.866 per dollar, breaching several psychologically important levels.

China’s policymakers were likely to order state-owned enterprises to sell foreign currency for yuan, adding weight to an earlier policy including greater scrutiny of citizens’ conversion quotas and stricter requirements for banks reporting cross-border transactions, Bloomberg reported, citing unidentified people familiar with the matter.

On the other hand, Fed minutes released on Thursday morning Beijing time reflected a tone less hawkish than expected, leading the US dollar index to weaken from a recent high at 103.82 on Tuesday.

The tightening of liquidity in offshore yuan was likely to be the result of “an intervention by China’s central bank,” said Aidan Yao, senior emerging Asia economist at AXA Investment Managers.

“The PBOC played the same trick last January and September by suddenly draining the offshore yuan market, it immediately pushed up yuan’s borrowing costs and hit the speculators,” he said.

Yuan bears usually borrow the currency in the offshore market to build their short positions.

“The liquidity drain in Hong Kong will not be sustained for long,” Yao said, adding that the People’s Bank of China would not want to badly disrupt the offshore market, but selectively employ the tactic as a way to deter speculators.

“The PBOC has engineered the mother of all funding squeezes on the offshore market, making short offshore yuan positions emotionally expensive today,” said Jeffrey Halley, senior market analyst at OANDA. “This has been going on for the last week or so and is certainly cheaper than intervening by selling dollars.”

Statistics from the Hong Kong Stock Exchange shows its USD-CNH futures had record high trading volume on Thursday after record high after-hours futures trading volume on Wednesday.

Beijing has been defending the yuan’s crucial 7 level against the US dollar in recent weeks, as yuan bears placing bets on the depreciation of yuan against a strengthened US dollar amid potential US rate hikes and inflationary stimulus policies expected by the Trump administration.

In 2016, the onshore yuan lost 6.6 per cent against the greenback, marking the biggest annual drop since 1994.