Hong Kong Dollar Headed for Weak End of Range, HKMA's Chan Says

  • Linked exchange rate allows moves in a HK$7.75-HK$7.85 band
  • Goldman sees scope for about HK$300 billion of outflows

The head of the Hong Kong Monetary Authority said he expects capital outflows to push the local currency to the weak end of its trading range for the first time and reiterated his commitment to keeping the exchange rate’s existing link to the U.S. dollar.

It’s a “matter of time that the outflow of funds from the Hong Kong dollar will lead to the triggering of the weak side,” HKMA Chief Executive Norman Chan told reporters in Hong Kong. Once that happens, the monetary base will shrink and interest rates will rise toward U.S. levels, he said, explaining how the exchange-rate system will bring demand and supply back into balance.

Hong Kong’s currency weakened 0.46 percent versus the greenback over the last two trading days in Asia, the steepest drop since 1986, and now trades near the mid-point of the HK$7.75-HK$7.85 trading range that’s existed for more than a decade. Interbank borrowing rates for the city’s currency climbed, with the three-month tenor jumping by 3.4 basis points to a five-year high of 0.45 percent. That’s still lower than the comparable rate for U.S. dollars, which was 0.62 percent on Friday.

Hong Kong’s currency and stock market have come under pressure as investor sentiment toward the Chinese economy soured and speculation increased that the city’s property market has entered a downturn. The benchmark Hang Seng Index of Hong Kong shares sank 1 percent to the lowest level since September 2012 on Monday.

Breathing Space

Goldman Sachs Group Inc. said the weak end of the currency band is likely to be reached and there is scope for some HK$300 billion ($38.5 billion) of outflows before Hong Kong dollar liquidity tightens to bring about a significant increase in borrowing costs. The HKMA’s aggregate balance -- the level of interbank liquidity that rises or falls when the authority intervenes in the currency market -- was HK$377.4 billion at the end of last week, having more than doubled in the last two years as a resurgent U.S. currency fueled demand for the city’s pegged currency and money poured into Hong Kong property.

"Fundamentals of the Hong Kong dollar peg are not under stress," Goldman analysts MK Tang and Maggie Wei wrote in a report. The aggregate balance would need to drop to "tens of billions of Hong Kong dollars so as to sustain meaningfully positive short-term Hibors," or Hong Kong Interbank Offered Rates, they wrote.

The Hong Kong dollar fell as much as 0.07 percent to HK$7.8003 versus the greenback on Monday, having been at the strong end of its trading range as recently as two weeks ago.

Sentiment toward the currency will probably remain weak and rising borrowing costs in the city have the potential to spur declines in property prices, according to Raymond Yeung, a Hong Kong-based senior economist at Australia & New Zealand Banking Group Ltd.

"My focus will turn to potential capital flight, which will tighten market liquidity and pass through to mortgage interest rates," he said. "Real estate prices in the most expensive city in the world will likely slip off."

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