China widens the bands
The weekends are becoming the 'days of choice' for China to announce major policy changes, with the PBoC announcing the widely touted widening of the trading band on the CNY on Saturday.
The consensus view had been for a rise to a plus or minus 2% from the previous 1% band and this has now been initiated; the interesting development is the timing of the announcement.
Most had expected the bank to enact this reform in the coming months, not this soon in the piece. It is no coincidence that the PBoC has stepped in when the spot CNY moved back above the fixing rate after several weeks of defying the previous trend. The PBoC is obviously acutely aware of the speculative USD selling here, as it has explicitly stated in the press that it will step in when (not if) necessary.
That means it will still moderate hot money outflows; the trade of the last few years had seen hot money inflows (mainly in USDs) which were used for lending, collateral or funding sources. These loan funds were then used for a wealth creation purposes by placing the loan funds into wealth products such as corporate bonds etc., or other speculation products. At the same time the CNY was appreciating; so on redemption the trade was boosted by currency appreciation.
This has since broken down as we saw the first major corporate bond default a week ago, with Premier Li Kequang stating at the close of the People's Nation Congress that further defaults were 'unavoidable'. This has heightened credit crunch fears and seen hot money exiting, which caused the spot CNY to drop below the fixing. With the rate reversing at the back-end of last week, it has given the PBoC a chance to step further towards liberalisation; something that will be long-term supportive.
This is more supportive because it creates efficiency in capital allocation, increases flexibility and push economic restructuring, and should see the CNY becoming more market determined. It allows increased hedge to risk and increases it flexibly to react to market issues.
Form an Asian-centric point of view this will have a longer-term effect on trade; it provides fairer trade boundaries as products and services move towards 'fair value' on a country to country basis. We see possible short-term volatility judging by the reactions to the widen of the band to 1%, however it is still very low on international standards and is unlikely to have a major effect; with the PBoC as a backstop it may strengthen and could fly on the open.
Crimea - priced in?
What has also eventuated over the weekend is the referendum vote in Crimea; as widely expected Crimea has voted to annex itself from Ukraine and join Moscow, this news I believe is priced in and the futures markets looks unaffected by the news from overnight. As expected, the West has dismissed the vote and does not recognise the referendum; with 95.5% of Crimeans voting to join Russia it is not surprising it has been dismissed.
What will be market-sensitive is if the West increases financial sanction on Russia, that is where the change will be felt. So far the West looks toothless to act as the reaction from Russia looks to be stronger and swifter on European assets particularly, and this will likely pressure Europe not to act financially, but rather diplomatically. The political reaction over the coming days will be telling for market reactions.
Ahead of the Australian open
We are currently calling the market down 24 points on the 10am bell (AEDT) to 5305 based on the futures close from Saturday which is likely to change on the open. The copper continues to see selling as the pendants ask 'has it bottomed?'
The falling knife that is copper is very hard to judge as the amount of copper that has been used as collateral in China is likely to distort trading. Copper looks to be under downward pressure and that hasn't reversed yet. Again copper equities and commodity currencies are likely to see pressure.
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