The Hong Kong monetary market hit its 4 billion yuan quarterly trading limit– set by the People’s Bank of China– a week before the quarter ended.
But it wasn’t because of a surge in demand for the currency. Rather, markets were selling the currency back to the Bank of China.
Many who had initially bet on an appreciating offshore yuan (CNH) fled to the U.S. dollar as a safe haven after the Fed Reserve warned of a gloomy economy, and following a sell-off in Asian currencies. This isn’t expected to impact the offshore market in the long-term, which looks to be diversifying to London.
Typically the CNH trades at a premium to the onshore yuan (CNY) because it is freely convertible in Hong Kong. But the selling became evident before the offshore rate started trading below the onshore rate according to SocGen analysts Wei Yao and Joseph Lau:
“The spread between the two has been moving with the pace of the appreciation in the onshore rate, and so it essentially reflects the appreciation expectation. The stark divergence on Friday obviously exceeded what can be explained by the onshore movement.
…If the market continues to sell CNH, we would expect that the authorities’ (via its agent banks) may intervene to bring it back. For now, though, we expect what happens in Hong Kong is not being reflected on CNY so the authorities won’t need be very active…”
The spread between the offshore and onshore yuan is not expected to widen too much or last very long, according to the analysts. But, if the reversal of the offshore yuan is because of an outflow of funds, it could have an impact on the Hong Kong dollar and the local financial system by way of a move away from the low interest rate environment.
Here is a chart that shows the sharp divergence between the offshore and onshore yuan:
NOW WATCH: Money & Markets videos
Business Insider Emails & Alerts
Site highlights each day to your inbox.