Yuan slips to 6-month low, outlook bearish amid trade friction between US and China

File photo showing The People's Bank of China’s (PBOC) headquarters in Beijing. The PBOC sets the midpoint rate every morning for the Chinese currency is not freely traded yet.
File photo showing The People's Bank of China’s (PBOC) headquarters in Beijing. The PBOC sets the midpoint rate every morning for the Chinese currency is not freely traded yet.PHOTO: REUTERS

SHANGHAI (REUTERS) - China's yuan weakened beyond a psychologically key 6.6 per dollar level for the first time in six months on Wednesday (June 27), and though it recouped some of the losses by midday bets are growing for further downside amid an escalating Sino-US trade row.

The People's Bank of China (PBOC) lowered the midpoint price by 0.6 per cent on Wednesday morning in what Hong Kong's South China Morning Post described as "a further signal that the central bank wants a weaker yuan in its armoury in the event of an all-out trade war".

As the Chinese currency is not freely traded yet, the PBOC sets the midpoint rate every morning and traders can only trade up to 2 per cent either side of it.

The midpoint level now stands at a six-month low, which has led traders to believe the central bank may favour a weaker yuan with the US and China on the brink of a trade war, reported the Post.

"This is a clear signal from the central bank to the US President Donald Trump that China could lead the yuan lower as revenge for the trade war sparked by the US. Besides imposing tariffs on US-imported goods, China wants to tell Trump that the country can use a weaker yuan in a currency war against the US dollar," Jasper Lo, chief of investment strategies at Eddid Securities and Futures, was quoted as telling the Post.

Reflecting the rising risks to the economic outlook, the People's Bank of China (PBOC) on Wednesday  lowered its yuan midpoint for the sixth straight trading day to 6.5569 per dollar, 389 pips or 0.6 per cent weaker than the previous fix of 6.5180.

It was the lowest fix since Dec 25, and the biggest one-day weakening in percentage terms since Jan 9, 2017, with some analysts suspecting the PBOC prefers to let the currency depreciate modestly.

The yuan peaked at 6.2352 in March, up 4 per cent for the year against the US dollar, making it the best performing emerging-market currency.

It has now erased those gains, and the sharp fall in the past 10 days means it is down 1.5 per cent against the greenback so far this year.

"The PBOC's preference might be to allow moderate weakening, pulling back if depreciation pressures started intensifying. But that's a difficult balance to strike. The chances of a sizeable depreciation have risen," economists at Capital Economics said in a note.

The spot yuan rate breached 6.6 per dollar level in early trade, after opening at 6.5717 and then moving to a low of 6.6159 at one point, the softest since Dec 19, 2017.

As of midday, the onshore spot was changing hands at 6.5977, 180 pips weaker than the previous late session close and 0.62 per cent softer than the midpoint.

Its offshore counterpart was on track for its tenth straight day of losses, 0.04 per cent weaker than the onshore spot at 6.6004 per dollar.

Some dollar selling was seen helping the onshore spot yuan move back up to trade firmer than the 6.6 per dollar level at around midday, several traders said.

However, it wasn't clear if state banks were propping up the yuan, they said.

Major state-owned Chinese banks were seen repeatedly selling dollars to support the yuan after a 2015 devaluation that roiled global markets. These dollar-selling interventions dried up last year.

Li Liuyang, senior foreign exchange analyst at China Merchants Bank in Shanghai, said the market appears to have been caught out by the Chinese currency's sharp rise at the beginning of this year and the current losses.

"That said there's something wrong with market expectations," Li said, referring to the depreciation expectations.

The year-to-date performance of the yuan "shows that it remains relatively strong rather than weak compared with other G20 currencies", he said.

Li expects limited downside beyond the 6.6 per dollar level given the one-way bets on yuan depreciation isn't as strong as in late 2015 and 2016.

Markets were also speculating whether the central bank had revived the so-called counter-cyclical factor in the midpoint fixing formula after some traders found forecast errors on Tuesday and Wednesday.

The counter-cyclical factor was introduced in May last year to the formula the PBOC used to determine the midpoint reference rate for the yuan's exchange rate against the dollar each day, and it was neutralised in January.

Many traders saw it as a tool to reduce price swings and counteract pressure on the yuan.