Banking & Finance

Yuan internationalisation likely delayed by euro and pound volatility, says BOCHK economist

PUBLISHED : Wednesday, 29 June, 2016, 10:09pm
UPDATED : Wednesday, 29 June, 2016, 10:17pm

The process of yuan internationalisation may face a setback as volatility in the world’s two largest reserve currencies - the British pound and the euro - are pushing the very foundation of the global monetary order into question, warned Bank of China Hong Kong (BOCHK) on Wednesday.

E Zhihuan, chief economist at BOCHK said: “The financial markets have been the biggest casualty in the Brexit event. Forex volatility has risen steeply. We could already see individual defaults in market trading as a result of the rise of the significant pressures.”

“The volatility and risks observed in currencies have been much more significant in what we see in equities,” she added. “Brexit has not only affected the pound. What is to become the role of euro? There is now a lot of concern over its future. It is after all an experimental currency.”

Rating agency Moody’s also lowered its outlook across the board for 12 British banks. These apply to HSBC and Barclays, which the Financial Stability Board designated “globally systematically important banks” as both are key counterparties in wholesale trading of capital markets across a spectrum of derivatives products essential for the functioning currency markets.

Sam Ahmed, managing director of Deriv Asia, an advisor behind a number of Asian investment banks’ in derivatives trade frameworks focused on their credit risk policy and collaterals settings, told the Post that risk officers in major banks could be expected to start upping margins and collateral requirements when they trade against British banks in over-the-counter settings.

Ahmed said any further action from the rating agencies in the next three months could see trading desks across the board start tightening their thresholds and exposures when dealing with British banks. Such an outcome could further disrupt the functional order of London as a global international centre.

London’s LCH.Clearnet is an essential infrastructure for 90 per cent of the world’s centrally cleared derivatives. It is also an important market for whole capital markets activities and the products are key to the provision of liquidity to currency related trades.

Its location was a major draw for Chinese banks, who viewed the City as a hub to spur yuan internationalisation globally and on the European continent.

LCH.Clearnet, the world’s largest central clearing provider, is set to the combined with Deutsche Boerse’s Eurex platform, the next largest player on the European continent, to clear 150 billion of trades in existence globally in a deal agreed in April before the Brexit decision. The tie up may now raise more uncertainty than confidence into the future of the markets.

Samson Li, deputy chief executive and chief investment officer of Bank of East Asia said as of Wednesday’s market closing no immediate disruption had been seen among the major market players. He said liquidity is good among products provided by the top banks but said he would not take on trade exposure with the smaller banks named on Moody’s list.

“Everyone will look towards Deutsche Bank’s lead and see how they react. They are taking a wait-and-see approach,” Ahmed said.

Together, the pound and the euro make up to between 40 and 50 per cent of the trade weights in major currency indices. The downward pressure on these currencies could weigh negatively on the global economy for the next one to two years.

“International monetary reform is a key topic that G20 leaders will need to discuss this year,” BOCHK’s E Zhihuan said. “The pound is a global major reserve currency, after the euro and just ahead of the yen. What is to become of its future? If it is to see its weight dented after the dust settles, what is to replace it? Is it the yen? Or would the yuan replace it? This is a question.”

The yuan is set to join the International Monetary Fund’s Special Drawing Rights as a reserve currency from October 1.

The BOCHK said it is receiving more enquiries from clients interested into allocating into the yuan with a view for the long-term, however official figures from the PBOC or Hong Kong’s monetary authorities do show net inflows as yet.