Chinese, Indian Currency ETNs Launch

By Matthew Hougan

Morgan Stanley has teamed up with Van Eck Global to launch currency exchange-traded notes offering exposure to the Chinese renminbi and the Indian rupee. The Market Vectors - Chinese Renminbi/USD ETN (NYSE Arca: CNY) and Market Vectors - Indian Rupee/USD ETN (NYSE Arca: INR) are the first exchange-traded products to offer exposure to those two currencies. They launched today on NYSE Arca.

The notes are designed to go up in value when the named currency appreciates against the U.S. dollar, and down when the dollar strengthens. The ETNs are underwritten by Morgan Stanley, and Van Eck is the marketing agent. The notes charge 0.55% in annual fees.

It's no surprise that Morgan Stanley is using the ETN structure to tap into these markets. ETNs are designed to offer exposure to challenging markets, and the Indian and Chinese currency markets are challenging. In fact, the Chinese and Indian governments put restrictions on spot currency transactions, effectively blocking most of us from accessing these currencies.

To get around that, the ETNs actually track an index tied to currency futures. Historically, these futures have tracked very close to the spot price of the currency, but the exposure isn't perfect. Still, if you're looking to get long the renminbi ... as many people are ... these ETNs are your best bet.

The Chinese renminbi (also known as the yuan) is officially tied to the value of a basket of foreign currencies, although many people expect China to loosen that peg in the future. The consensus bet is that China will allow its currency to appreciate significantly against the U.S. dollar; in fact, U.S. Treasury Secretary Henry Paulson has been pressuring China to do just that.

The Fine Print

The new notes come with three caveats.

First, unlike most currency products, they earn interest based on the U.S. Federal Funds interest rate ... not local interest rates. (Although they are currently similar.)

Second, these ETNs do not pay out interest income - instead, it is added to the share value of the note. That creates a problem for investors, as the IRS has said that investors must pay taxes each year on this notional interest ... even though they won't realize the gains until they sell the note.

Finally, ETNs are debt instruments, which means investors are exposed to the credit risk of the underlying bank. Morgan Stanley seems sound, but the current market environment could give people pause.

All that said, these remain very interesting products that will likely be a real success with investors. There's a great deal of interest in both currencies, which have been all but inaccessible to market participants.

WisdomTree currently has an ETF in registration tied to Chinese money market exposure. There's no word yet on when that will launch.

• More on Currency ETFs and ETNs

Comments

[parity]

If the ETNs are tied to currency futures and if interest rate parity holds, then you are effectively getting a psuedo interest rate return based on the local interest rates. A higher local interest rate than US rate would mean lower future prices for the foreign currency than spot, which makes up the differences in interest rates. Does anyone know the answer to this? These are non-floating currencies after all.

[proseadvocate]

Last time I looked Chinese short rates were more than twice U.S. and may now be three times. They have to raise rates to slow growth, whereas our Gov wants every bank to get my money for free. Its about time somebody started to tap into the Chinese money but, if I know U.S. banks the bosses will find a way to run off with the profits.

[User 142738]

Okay, we all know Morgan Stanley can buy yuan, but with the super–restricted yuan exchange, how could they sell it? It appears that the yuan ETN depends on black–market yuan buyers to be worth something other than an amount of yuan.

[YL]

I am very interested in one of the new ETNs, the Chinese RMB ETN, with a price closed at $40.73 today....not sure how this product has initially been priced - looks like its starting trading price was $40... There is no info available online in terms of the product structure and its pricing. Wanted to buy some but don't have the necessary info... can anyone help or have any idea in terms of the product pricing and structure / portfolio? thanks for your help!!

[etf admirer]

well, the rupee floats freely although their central bank keeps intervening infrequently. i doubt these are based on futures market, since the only rupee futures market is in dubai which is outside india and illiquid; while the yuan does not have a futures market. most likely they would be tied to forwards or swap rates (not futures), which is probably also why the interest accrual will be in US fed fund rates.

[granger]

Has Wisdom tree received approval for its foreign country money market funds yet?

[Ragnar]

Any opinions on Everbank's WorldCurrency CDs? They offer exposure to rupee and renimbi...

[hepp2]

As the homogenization of the pricing of goods and services globally continues, the forward march of the yuan and rupee will likely continue. This is discussed in more length at indiafund.com and china-fund.com