Yuan Bears Stick to Forecasts After PBOC Attacks on All Fronts

  • Rabobank sees drop to 7.6 in 2016, Natixis predicts 6.95
  • PBOC's yuan-buying intervention surged to record in December

China is attacking yuan bears on multiple fronts, forcing banks to hold more of the currency, driving up offshore interest rates, issuing verbal warnings and undertaking intervention that cut reserves by $108 billion last month alone. That has only emboldened some forecasters.

QuickTake The People’s Currency

Rabobank Group, Natixis SA and Barclays Plc are sticking to calls for a yuan slump, arguing falling reserves will weaken China’s finances, while curbs on selling only bottle up pressure for declines. Rabobank, the most bearish in a Bloomberg survey of 45 analysts, sees a 15 percent drop this year to 7.6 per dollar. China needs a one-off devaluation of at least 15 percent instead of a controlled depreciation over time, said Raoul Pal, a former hedge-fund manager who now writes a newsletter for investors.

“The Chinese need to get it over and done with otherwise this will drag out for a long time,” Pal said. “It’s a battleground. The Chinese are using their reserves very quickly and they have to ask themselves if they want to keep wasting money on propping up the currency.”

Chinese policy makers are walking a tightrope between making the exchange rate more market-driven after qualifying for International Monetary Fund reserve status and curbing declines to avoid capital outflows. Their dilemma might explain why the central bank kicked off 2016 with four days of weaker fixings, before changing course to keep the reference rate steady. Exchange rates in Hong Kong and Shanghai were allowed to drift apart, before intervention and a record cash crunch brought them back together again.

“Don’t confuse the number on the screen with sentiment,” said Michael Every, Hong Kong-based head of financial-markets research at Rabobank. “There are far fewer ‘free’ willing holders of offshore yuan now and many more would-be sellers. I am more bearish longer term while recognizing that the onshore and offshore yuan will remain more stable in the short term.”

Yuan Forecasts Distribution (No. of forecasts on left)
Yuan Forecasts Distribution (No. of forecasts on left)

Government officials have verbally pushed back against expectations for drastic declines. Premier Li Keqiang on Friday pledged a “stable” exchange rate and said he has no intention of stimulating exports through competitive currency devaluation. Han Jun, the deputy director of the office of the central leading group for financial and economic affairs, said betting against the yuan will fail.

Convergence Goal

The People’s Bank of China’s determination is having some impact. Commonwealth Bank of Australia raised its offshore yuan year-end forecast to 6.4 per dollar from 6.5 to reflect the likelihood of officials achieving their convergence policy goal, strategists led by Richard Grace wrote in a Jan. 14 report. China’s currency will end the year at 6.7 a dollar, according to the median estimate in a Bloomberg survey of analysts.

The yuan traded in Hong Kong gained 1.05 percent last week, and was at about 6.6015 a dollar on Tuesday, 0.3 percent weaker than its 6.5793 rate in Shanghai. The gap has closed from a record 2.3 percent Jan. 6.

“You don’t work so hard to join the IMF reserve system and the next moment devalue your currency 10 to 20 percent,” said Desmond Soon, Singapore-based head of investment management in Asia outside of Japan at Western Asset Management Co., which manages about $450 billion. “That defeats the whole purpose of joining this elite club of currencies that are a store of value. Of course if they are forced to or lose control that is another consideration, but our base case is that it won’t depreciate very meaningfully."

Foreign Bears

Hedge funds that are betting against the yuan include Carlyle Group’s Emerging Sovereign Group and Passport Capital in the U.S., and Omni Partners and Odey Asset Management in the U.K. Odey’s main fund surged 14 percent in the first 12 days of January, wiping out all its losses last year.

The cost of borrowing yuan increased in Hong Kong’s interbank market after the PBOC said it will impose reserve-requirement ratios on yuan deposited onshore by overseas financial institutions from Jan. 25. The one-week Hong Kong interbank offered rate climbed 370 basis points to 11.9 percent on Monday. That’s still down from 34 percent last week. Barclays says high offshore rates are at odds with China’s goal of boosting global use of the yuan and may entice capital from the mainland.

“These are short-term measures and we haven’t changed our views,” said Dennis Tan, a Singapore-based strategist at Barclays, whose 6.9 forecast is the sixth-most bearish. “I don’t think offshore yuan rates will stay high for too long and eventually they will allow the currency to depreciate. Each action is in conflict with another agenda that they have.”

In a sign of worsening outflows, the PBOC sold a record amount of foreign currency in December, more than twice as much as in any previous month. The increased intervention amid falling reserves are fueling concern China will have to save ammunition and tolerate further weakness. A report showed Tuesday China’s economy grew 6.9 percent last year, the least since 1990. Industrial production growth slowed to a 5.9 percent pace in December, from 6.2 percent a month earlier.

“The downward trend is still there and outflows will continue unless we see some stabilization in the economy,” said Nordine Naam, global macro strategist at Natixis in Paris, whose 6.95 yuan forecast is the third-most bearish after Morgan Stanley, which sees 6.98.

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