China Swaps Drop Most Since October on Bets for Bank Reserve Cut

  • Record loss of FX holdings spurs RRR speculation, says ANZ
  • Bonds rally, with 10-year yield down nine points in two days

One-year interest-rate swaps in China fell the most since October on speculation the monetary authority will lower lenders’ reserve ratios to counter capital outflows.

Cuts to the yuan’s reference rate this week sparked global turmoil as it suggested the central bank has become more tolerant of depreciation as growth slows. Foreign-exchange reserves dropped by a record in December, a sign of the cost to prop up the currency, and cash injections through open-market operations this week were the biggest since February. The nation also u-turned on a new circuit-breaker system for equities after the measure spooked investors.

“Lowering the reserve-requirement ratio could inject liquidity to offset the drain caused by the drop in foreign-exchange reserves,” said David Qu, a Shanghai-based interest-rate strategist at Australia & New Zealand Banking Group Ltd. The cash injections and decline in reserves fueled the market speculation, he said.

The cost of one-year swaps, the fixed payment to receive the floating seven-day repurchase rate, decreased eight basis points to 2.25 percent in Shanghai, data compiled by Bloomberg show. That’s the biggest decline since Oct. 26, when the central bank cut the amount of cash banks must set aside as reserves by 50 basis points to 17.5 percent.

Foreign-exchange reserves shrank by a record $108 billion to $3.33 trillion in December, capping the first-ever annual decline, the People’s Bank of China reported on Thursday. The PBOC lowered the RRR for banks four times last year as it sought to revive growth, which in 2015 was expected to be the slowest in a quarter of a century.

Government bonds rose, with the 10-year note yield falling five basis points to 2.83 percent, according to National Interbank Funding Center prices. It declined nine basis points in two days and was down three basis points for the week.

The seven-day repo rate, a gauge of interbank funding availability, dropped three basis points on Friday to 2.30 percent, National Interbank Funding data shows.

— With assistance by Helen Sun

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