Yuan Withstands Europe Debt Crisis With Biggest Asian Gain: China Credit

China’s yuan is climbing the most in Asia as investors from UOB Asset Management Ltd. to Union Investment predict the world’s biggest foreign reserves will help the currency withstand the spreading debt crisis in Europe and tensions on the Korean peninsula.

The yuan rose 0.6 percent against the U.S. dollar in the past month, while the South Korean won slumped 2.8 percent. China’s currency was the second-best performer among 25 emerging markets after the Chilean peso, which gained 0.8 percent.

The yuan will advance 6.6 percent by the end of next year, the biggest appreciation in the so-called BRIC nations of Brazil, Russia, India and China, according to the median forecasts of strategists surveyed by Bloomberg. The 5 billion yuan ($750 million) sale of Chinese government bonds in Hong Kong this week was 10 times oversubscribed, reflecting growing global demand for the currency. Deposits of renminbi in Hong Kong jumped 45 percent in October to a record 217 billion yuan, the Hong Kong Monetary Authority said Nov. 30.

“The renminbi has a very stable appreciating trend,” said Chia Tse Chern, director for fixed-income in Singapore at UOB Asset Management who helps oversee $10.6 billion and is interested in buying yuan debt in Hong Kong. “The Chinese are comfortable for the renminbi to appreciate 4 percent to 5 percent every year against the U.S. dollar.”

Broad Rally

The yuan, which was little changed at 6.6640 per dollar as of 2:56 p.m. in Shanghai, has strengthened 2.4 percent since a two-year dollar peg ended on June 19. A trade-weighted index for the yuan, the JPMorgan Nominal Broad Effective Exchange Rate, climbed 2.2 percent in November, the biggest gain since February 2009. The yuan, a denomination of the renminbi, climbed 6.4 percent against the euro, 3.7 percent versus the yen and 2.6 percent to the British pound.

The Chinese currency will appreciate to 6.25 per dollar by the end of 2011, compared with 5.5 percent gains for India’s rupee and the Russian ruble, and a 0.8 percent decline for Brazil’s real, according to the median estimates of analysts in Bloomberg surveys. China has $2.65 trillion of currency reserves, the world’s biggest.

China’s Ministry of Finance sold debt in Hong Kong on Nov. 30 with maturities of three, five and 10 years. The longer- maturity notes were sold with a 2.48 percent coupon, compared with a yield of 4 percent for similar-maturity bonds traded in Shanghai that day. The yield on onshore September 2020 debt was unchanged at 4 percent yesterday.

Yield Gap

The difference in yield investors demand to own bonds sold by China instead of U.S. Treasuries widened 60 basis points, or 0.60 percentage point, last month to 150, the highest level since May 2009, according to JPMorgan Chase & Co.’s EMBI Global Index.

Investors took money from emerging-market bond funds in the week ended Nov. 24, snapping a 25-week run of net inflows, according to EPFR Global data released on Nov. 30. Funds focused on developing nations’ debt attracted $51.8 billion this year as of Nov. 17, exceeding annual tallies in EPFR data going back to 1995.

Appetite for higher-yield debt cooled as Ireland joined Greece in the past week in accepting a European Union-led bailout and North Korea fired an artillery barrage at a South Korean island, killing four people and prompting retaliatory action.

China’s central bank is seeking to limit asset bubbles caused by an influx of capital into the world’s second-biggest economy. Policy makers raised lenders’ reserve requirements for the fifth time this year on Nov. 19, a month after increasing its benchmark interest rate for the first time since 2007.

Manufacturers’ Pain

China will go slow in letting its currency appreciate to protect small companies that compete in the world market, according to Ivan Leung, chief investment strategist in Hong Kong at JPMorgan Private Bank, which oversees $600 billion in assets.

“A lot of Chinese manufacturers are still on the lower- value end, where the margin is extremely tight,” Leung said. “There are a lot of companies facing wage gains and labor shortages, so they are already having difficulties to make ends meet. If you allow the currency to rise too quickly, you will force a lot of companies out of business.”

Chinese manufacturing expanded at the fastest pace in seven months in November, the nation’s logistics federation said yesterday, signaling the central bank may further tighten monetary policy. The Purchasing Managers’ Index rose to 55.2 from 54.7 in October.

Growth Outperformance

Emerging-market economies are forecast to grow 7.1 percent this year, with China expanding 10.5 percent after gross domestic product increased 9.1 percent in 2009, according to International Monetary Fund estimates released on Oct. 6. China posted a larger-than-forecast $27 billion trade surplus in October.

“The trade and current-account surplus issue of China as well as the gradual tightening path of Chinese monetary policy are the dominating forces behind the gradual appreciation theme,” said Sergey Dergachev, who helps manage the equivalent of $8.5 billion of emerging-market debt at Union Investment in Frankfurt. He expects the yuan to advance 3 percent next year.

The yuan benefited last month while investors shunned riskier assets, said Isaac Meng, an economist at BNP Paribas SA in Beijing, who predicts a gain of as much as 5 percent next year.

“Compared with other Asian currencies, such as the South Korean won, there is less volatility in the yuan’s exchange rate,” he said.

Less Volatility

One-month implied volatility, a measure of foreign-exchange swings used to price options, was at 4.1 percent for the yuan, compared with 14.9 percent for South Korea’s won and 9.6 percent for the Indian rupee.

The annual cost of insuring China’s foreign-currency debt for five years using credit-default swaps reached 67 basis points, 36 basis points less than this year’s high of 103 points on May 25, according to CMA prices. The contracts pay the buyer face value in exchange for the underlying securities or the cash equivalent should the government fail to adhere to its debt agreements.

“The structural trend is the appreciation of the renminbi because of the huge reserves accumulation,” Anthony Chan, the Asia sovereign strategist in Hong Kong at AllianceBernstein L.P, which oversees $499 billion globally, said in an interview yesterday. “Whereas others, like the Korean currency are particularly sensitive to the risk-on, risk-off trade globally.”

--Lilian Karunungan, Judy Chen. Editors: Sandy Hendry, Simon Harvey

To contact Bloomberg News staff on this story: Lilian Karunungan in Singapore at +65-6212-1115 or lkarunungan@bloomberg.net; Judy Chen in Shanghai at +86-21-6104-3043 or xchen45@bloomberg.net.

To contact the editor responsible for this story: Sandy Hendry at shendry@bloomberg.net.

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