An alarming picture emerges when you take the US dollar out of renminbi valuations

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A game of two halves, chalk and cheese, Jekyll and Hyde.

No matter how you choose to describe it, it’s been a tumultuous start to the year for the financial markets.

The first part of the year was characterised by a sharp selloff in risk assets, leading some to go as far to declare that investors should sell everything. Global recession risks were building, as was the chance of a severe correction in risk assets.

However, as soon as that sentiment looked like it was going to become entrenched it was replaced by near-euphoric optimism, spurred on by renewed central bank easing and the belief that the selloff at the start of the year was merely an overreaction to gremlins that weren’t ever actually there.

A big factor behind the sharp turnaround in sentiment was improved sentiment towards the outlook for the Chinese economy; in particular the outlook for the nation’s currency, the renminbi.

Earlier in the year, fears over a potential large-scale devaluation of the renminbi reached levels not seen since China’s central bank, the PBOC, made a change to its daily fixing mechanism for the USD/CNY in August 2015.

A huge draw down in China’s FX reserves, suggesting to some that capital outflows from the nation were accelerating sharply, along with the perceived risk that a financial crisis could lead to China to sell down these reserves in order to recapitalise its banking sector, saw risk assets crater in response.

It was all going to end in tears. The renminbi was going to weaken significantly, leading to an inevitable global recession.

Now, just weeks later, concerns surrounding the renminbi are all but nonexistent. In response to recent weakness in the US dollar following the US Federal Reserve’s March policy meeting, the USD/CNY has also moved lower, falling to the lowest level seen since late December last week.

The decline — indicating strength in the renminbi against the US dollar — was a sign that concerns over renminbi weakness were not only overblown but had already reached their crescendo.

However, while the renminbi has strengthened against the US dollar, the story is very different when compared to other currencies. Indeed, according to Khoon Goh, senior FX strategist at the ANZ, the renminbi is now trading at lows not seen since November 2014 against a basket of currencies.

“The lower USD/CNY fixings were no surprise given the extent of the sell-off in the USD,” said Goh in a research report released earlier this week. “Over Thursday (17 March) and Friday post the FOMC meeting, the USD depreciated against all the currencies in the CFETS basket.”

The CFETS index, or China Foreign Exchange Trade System, measures movements in the renminbi against 13 currencies — including not only the US dollar, Japanese yen, euro but also the likes of the Australian and New Zealand dollars — with weightings largely determined by international trade flows.

“Even with the stronger fixings against the USD, the RMB index continued to fall, reaching its lowest level since November 2014,” says Goh.

“This suggests that while the CNY fixings are a result of USD movements against the basket, the full extent of the USD weakness has not been pushed through into the fixings.”

The chart below, supplied by ANZ, reveals the divergent performance of the renminbi:

While most continue to be transfixed on the daily USD/CNY fix from the PBOC, it will be interesting to see what, if any, market reaction will occur if the renminbi continues to weaken against other major currencies.

At present, markets are playing scant regard to this – an anomaly compared to the levels of concern expressed earlier in the year.

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