China has taken another step to boost its currency's international allure by allowing a market-determined fixing for the yuan traded in Hong Kong, but it needs to reform the offshore bond market quickly to encourage more trade to be settled in the renminbi.
After months of waiting, Hong Kong on Monday launched a daily fixing for the offshore yuan, or "CNH", against the U.S. dollar to complement an officially determined mid-point fixing for the mainland exchange rate. The fixing is expected to make pricing FX options and other structured products more transparent in a market where average daily volumes of CNH trading has already crossed the $1 billion mark.
However, what the CNH market really needs for longevity's sake is some reform of the fixed income secondary market. Secondary bond trading is largely restricted to high grade names, no derivatives market exists for banks to offset their risk and "most bonds are in the hands of private banks that tend to hold them to maturity", according to Nicholas de Boursac, managing director of Asia Securities Industry & Financial Markets Association (ASIFMA), a trade advocacy group.
Bond market reforms are urgent as the main growth-driver for offshore yuan in Hong Kong has been mainland importers invoicing more of their cross-border trade in yuan, which makes it essential for their trading counterparts in the territory and elsewhere to protect their currency and interest rate exposure.
There have been instances when banks have had to shoo away bulk yuan deposits from companies as there have been no investment options apart from the small interbank market and the People's Bank of China's special accounts which offer a few basis points.
De Boursac says an offshore yuan interest rate fixing would allow the development of derivatives such as forward rate agreements, forward foreign exchange contracts and swaps.
"These will allow importers of Chinese products who are invoiced in yuan to better hedge their exposure and in turn would result in a more balanced trade flow in RMB," he says.
The week in review
- Strangely, in the four days of fixes so far, dollar/CNH has been fixed at a lower level to dollar/CNY for only two days despite thefact that offshore yuan usually trades at a small premium to its mainland counterpart as demand for yuan far exceeds supply inthe territory.
- Of dim sums and burgers: McDonald's Corp is planning to raise a second round of funds via the offshore yuan bondmarket after its maiden offer heralded the start of this market. The fast food chain can expect to raise more funds and at a cheaper rate than the previous 3 percent.
- More companies and funds are looking to switch their exposure into the fledgling yuan deliverable forwards market in Hong Kong from non-deliverable forwards to gain exposure to yuan appreciation, Brown Brothers Harriman's vice-president of foreign exchange Win Thin said during a visit to Hong Kong this week
- Renminbification: Even though the growth of the CNH market signals a move away from the U.S. dollar as a trade settlement currency, Aberdeen Asset Management is looking for a better opportunity to invest in offshore yuan bonds as yields are excessively low currently, Donald Amstad, a director at the company said.
- A unit of Indian lender Infrastructure Leasing & Financial Services Ltd (IL&FS) may potentially become the first Indian company to tap the offshore yuan bond markets. After a freeze earlier this month, issuance activity has picked up again with names like Genting Hong Kong, CJ Global Holdings and ICBC (Asia) raising low-cost renminbi funds.
By Saikat Chatterjee, Reuters
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