Yuan Forwards Jump by Most in Two Years as Trade Surplus Swells

Yuan forwards jumped the most since January 2012 after China’s trade surplus almost doubled and the central bank boosted the currency’s daily reference rate.

Twelve-month non-deliverable forwards strengthened 0.47 percent to 6.2154 per dollar as of 4:39 p.m. in Hong Kong, according to data compiled by Bloomberg. The People’s Bank of China raised its yuan fixing by 0.22 percent, limiting the scope for declines in Asia’s worst-performing currency of 2014. The spot rate gained 0.16 percent to close at 6.2404 in Shanghai, trimming this year’s loss to 3 percent, China Foreign Exchange Trade System prices show.

Exports rose more than economists forecast in May and the trade surplus widened to a five-year high, data showed yesterday. The figures brightened the outlook for the currency after policy makers engineered a weakening of the yuan in the first four months of 2014 to curb speculation that the exchange rate was a one-way bet. The currency had almost uninterrupted annual gains from the end of a dollar peg in 2005 through last year.

“Yuan NDFs rose sharply after the currency’s reference rate was fixed much stronger than expected for a second consecutive day,” said Irene Cheung, a Singapore-based strategist at Australia & New Zealand Banking Group Ltd. “This may signal the PBOC is getting more comfortable with the state of the economy and may already know that Friday’s data will be quite positive.”

A government report due that day is expected to show China’s industrial production rose 8.8 percent from a year earlier in May, after 8.7 percent growth in April, according to the median estimate in Bloomberg survey. The government will also release figures on retail sales on the same day.

Trade Surplus

Overseas sales climbed 7 percent from a year earlier in May, official data showed yesterday, compared with 0.9 percent growth in the previous month and the median estimate of a 6.7 percent gain in a Bloomberg News survey. That left a trade surplus of $35.9 billion, almost double the figure for April, as imports unexpectedly fell.

“The strong fixing of the yuan is boosting sentiment,” said Frances Cheung, a Hong Kong-based strategist at Credit Agricole CIB. “In addition, the weekend numbers seem to suggest that the economy is bottoming out. The trade surplus points to continued inflows.”

The yuan was 1.5 percent weaker than today’s reference rate of 6.1485 per dollar, within the 2 percent limit of a trading band that is managed by the PBOC. The central bank buys dollars to counter yuan appreciation and these purchases helped boost the nation’s foreign-exchange reserves by $126.8 billion in the first quarter to a record $3.95 trillion.

Market Expectations

The State Council asked the PBOC to increase two-way flexibility in the yuan and keep the exchange rate relatively stable at a reasonable equilibrium level, according to a May 15 statement on the central government’s website.

The weakening of the yuan had a positive impact on exports and brightened the outlook for the currency, Bank of Communications Co. said in a research note yesterday. “As the external trade surplus continues to widen, that will bring appreciation pressure to the yuan and so expectations of a further yuan drop will weaken,” economists led by Lian Ping wrote.

In Hong Kong’s offshore market, the yuan strengthened 0.22 percent today to 6.2309 per dollar, data compiled by Bloomberg show. The yuan will appreciate to 6.10 in Shanghai by the end of this year, according to the median forecast in a Bloomberg survey.

‘Two-Way Risk’

ING Groep NV cut its year-end yuan forecast to 6.25 per dollar from 6.22, Tim Condon, head of Asian research in Singapore, said in a research note today. “The PBOC is serious when it claims that the yuan is subject to greater two-way risk,” he wrote.

One-month implied volatility in the onshore yuan, a gauge of expected moves in the exchange rate used to price options, rose 11 basis points, or 0.11 percentage point, to 1.39 percent, data compiled by Bloomberg show. That is the biggest one-day increase since March.

China’s trade report for May showed sluggish exports and a drop in imports that reflected poor domestic demand, signaling the economy faces the risk of further weakness, BNP Paribas SA economist Richard Iley wrote in a research note today.

While the larger-than-expected trade surplus prompted the PBOC to “opportunistically fix” the yuan stronger, betting on a return to yuan appreciation “remains a risky proposition,” Hong Kong-based Iley wrote.

Before it's here, it's on the Bloomberg Terminal.