Pause For Concern On Chinese Currency ETN

Year-over year, the CurrencyShares Euro Trust (FXE) is up 19%. I once referred to the Euro as the closest thing to a "sure thing."

Since the Euro's early struggles in 2000, it has gained 85% against the U.S. dollar. The Euro actually lost significant ground in 2005, when the Fed was raising rates. Yet for the most part, the U.S. dollar struggled in the weak economic years of 2000-2003... and it has found new trouble in 2007-2008 as we fight off another recession.

Yet if typical economic cycle forces prevail, the U.S. dollar may begin a recovery against the Euro in 2008-09. The "bet-against-the-dollar" folks will be at a loss to explain why they didn't see a change in the works.

That said, the next "sure thing" currency is the Chinese dollar, also known as the "renminbi." The reason the Chinese dollar will prevail is that it had been artificially pegged to the U.S dollar for far too long. And even today, the Chinese government does not allow its currency to trade freely.

Nevertheless, over time, there is simply no currency that will rise as quickly against the U.S. dollar, or the Euro, quite like the renminbi. And for exchange-traded enthusiasts, you finally have your first vehicle: Market Vectors - Chinese Renminbi/USD ETN (CNY).

Matt Hougan of Index Universe explains that the exchange-traded note CNY will go up in value when the renminbi appreciates against the U.S. dollar. It will go down when the U.S. dollar strengthens against the Chinese currency. (The long-term likelihood of the latter is small indeed!)

So why wouldn't I be jumping through hoops to recommend the new Market Vectors - Chinese Renminbi/USD ETN (CNY)? Simply put, exchange traded notes, or ETNs, are different than exchange-traded funds. They carry risk other than currency risk... specifically, credit risk.

The debt vehicle CNY is subject to the credit of its underlying brokerage, Morgan Stanley (MS). And while Morgan Stanley may not be a "Bear Stearns in waiting," who is eager to purchase the debt of investment brokerage houses? At best, this is a cause and a pause for concern.

If the underlying institution were Barclay's, one of the world's largest banks by market capitalization, I'd feel a whole heck of a lot better. Unfortunately, it's Morgan Stanley. So for the time being, as much as I love the idea of accessing the appreciation potential for the Chinese renminbi, I am going to hold back.

After all, Barclay's is introducing currency notes of their own. Coming soon? The Asian and Gulf Revaluation Fund. It will be tracking an index of Middle Eastern and Asian currencies tied to the U.S. dollar, from the renminbi to the Saudi Arabian "riyal" to the Singapore dollar to the UAE's "dirham."

Disclosure: no positions

Comments

[Lisa:]

Maybe you buy the Chinese currency ETN and short MS, or buy puts on MS.

2008 Mar 28 09:31 AM

[SJ:]

Short MS to hedge the credit risk on their ETNs ?!!!! You would have picked up a whole new risk (market risk on MS) as well. And puts on MS would be too expensive as well.

2008 Mar 28 01:55 PM

[User 151956:]

Yes, but the point isn't to save expense, it's to buy stuff whenever possible.

2008 Mar 28 02:57 PM

[Chicago Jeff:]

Why not buy Chinese Renminbi directly? I believe you can purchase it through Everbank -- it gains 0% interest, but you'll get the appreciation vs the US dollar.

2008 Mar 29 12:37 AM

[rainman:]

for the 1st quarter, RMB appreciates 3.9%, more than 1% each month.

MS won't go crashed tomorrow and it is interesting to see the Street as so scared.

After all, ETN is one of a few things that American can still produce and it does not ask for 64 times of leveraging.

2008 Mar 29 05:10 AM

[Elliott Ng:]

I posted on the topic of RMB appreciation here:

cnreviews.com/elliott_...

I am also looking at the Everbank World Access Deposit account. Downside is 0% interest rate and an approximate 75 bps spread into the currency and out of the currency.

2008 Mar 29 12:52 PM

[Vladimir Se...:]

This is interesting to me because I already have an outstanding short on MS. So it if was to fail or be in some kind of trouble shareholders would be last in line while creditors (including, i'm assuming, holders of this new note) would be closer to the front. if what happened to the BSC was to be replayed there, i would do OK with this type of hedge. So i'm not recommending to short MS, but if you already are anyways, this might be an interesting play.

2008 Mar 29 03:34 PM

[rainman:]

Bank would charge big fee on your hedging of converting dollars into RMB if any; I need data on CNY to understand how this 40 dollars worthy of.

innovation is the spirit of the Americans to survive amid this credit crunch, smart indeed though, that the Wall had spread the housing credit risks to the Europeans, who may hate the most, not mentioning the best move of the century, that is Blackstone trapped the Chinese CIC, to sell their shares to keep their jet life, still, Chinese may be too scared to load any more those Street products, close enough, but the Chinese escaped the BSC this time.

2008 Mar 29 04:23 PM

[BeniciaDiamond:]

I use Everbank to hold the Chinese currency in a money market account (i.e. World Access Deposit account). Yes, it pays no interest; but I feel the appreciation over the comming years will more than make up for that. As "rainman", above says, it has appreciated more than 1% per month for the first quarter '08.

(Of course, past performance is no guarantee . . . )

2008 Mar 29 04:28 PM

[justinslot:]

Hey Benicia, is the Everbank account minimum for the renminbi $2500 or $10000? I was looking in their fee schedule and they say the "Special Chinese Renminbi" minimum is $10000 but wasn't sure if that specified some different kind of account from a regular renminbi account (and all their other foreign currency accounts are $2500 minimum.)

2008 Mar 29 04:44 PM

[Lisa:]

Do the Forex trading platforms, like the ones that advertise on this site, allow you to trade Yuan futures? That might be the cheapest way to do this, no?

2008 Mar 29 05:03 PM

[bato sa bato:]

China might get so frustrated with the American dollar due to their huge loses on their exports . Their final move could be unpegging their renminbi from USD.

2008 Mar 29 09:13 PM

[Rolandx:]

Seeing the Shanghai index implode no below 3500 is amazing. The government could start buying here for supports. I had expected 4500 but the was probably too much bubble left.

Are you watching the shanghai index for signs of what the government is doing in the markets? Any general thoughts on th eShanghai index.

2008 Mar 30 05:42 AM

[automaticeye:]

Questions because I don't know the answers:
Why not invest then in Chinese ADR's to gain exposure to some of this appreciation? Blue Chip Chinese Companies that get most or all of their Revenue from Mainland China?
How will the HKD move with the move up in RMB? You can get HKD from E*Trade although it pays 0% as well. From there you can invest in securities locally (Hong Kong Market) or leave the currency in HKD.
While these options are more loosely tied to the direct investment in RMB, should some of the currency effect apply over the long-term (in years)?

2008 Mar 30 10:49 AM

[rainman:]

1. the rational on MS worries does not sell to me.
2. RMB is predicted to have 10% appreciation in 2008, so we have 6% gains, CNY is the only certain play that won't get you loss money, though the gain is small, it may be the second FXE in the long run, say 3 year.s
3. Wait till 110 to load your FXI, but do remember, HKD is worthless given their pegging on USD and inflation there.
4. Shanghai ETF 50 could be a hedging, while it is predicted that the index would be amid 3000 - 4500 in the second quarter, after all, the government won't allow the equity market go too shabby considering the upcoming Olympics, but there is no good news for next Monday from the policy makers for reducing trading tax or what so ever.

2008 Mar 30 12:56 PM

[edhui88:]

Anyone can open a bank account in Hong Kong, say HSBC, and deposit dollars or yen there. The banks in Hong Kong would allow you to exchange funds into Renminbin deposit which pays you a small interest say 0.1-0.5pct. The max amount exchangable per day, I believe, is HKD50,000. This beats the Everbank account however, the spread could be slightly bigger. Do check with your bank when you do it. Better still, foreigners are allowed to exchange USD50,000 per year into RMB at any domestic Chinese banks. The Chinese banks are paying 4-5pct interest on one-year deposit. The down side is you have to pay interest tax which is 20pct.

2008 Mar 31 03:53 AM

[finmah@yaho...:]

MS default is an outlying issue and how is everyone here assuming a put or short sell with massive negative sentiment already would hedge them? The slightest change in this position is a loss. The currency appreciation vs credit risk MS seem uncorrelated - they can both move against you easily.

How about a HNP the utility with a dividend - fast growing country - mainly domestic revenue -over long term -

2008 Mar 31 07:35 AM

[phdinsuntan...:]

US
March 31 2008 Fiscal Year 2007: Capital/Assets

US Broker Bear Stearns 3,0%
US Broker Morgan Stanley 3,0%
US Broker Merril Lynch 3,1%
US Broker Lehman 3,3%
US Broker Goldman Sachs 4,5%
US Bank Citigroup 5,2%
US Bank JP Morgan 7,9%
US Bank Wells Fargo 8,3%
US Bank Bank of America 8,6%
US Bank Wachovia 10,2%

Europe

EU Broker UBS 1,9%
EU Bank Barclays 2,6%
EU Broker Commerzbank 2,6%
EU Bank BNP Paribas 3,5%
EU Broker Credit Suisse 4,4%
EU Bank Royal B Scotland 4,8%
EU Bank BBVA 5,6%
EU Bank HSBC 5,8%
EU Bank Santander 6,3%

2008 Apr 02 07:26 AM

[tradealarm:]

China Investment Corporation (CIC) bought a 9.9% stake of Morgan Stanley worth US$ 5 billion on December 19, 2007.

2008 Apr 11 10:38 PM

[Nobby:]

Question for edhui88:
I have tried contacting banks in HK regarding opening a chinese renminbi account. They told be only HK ID holders can open one.
I will be in China mainland in a few months...I would prefer to open the account here if possible. Can you please confirm which domestic banks will definitely allow this, as I had heard this also was not possible for foreigners? Thanks

2008 Apr 20 04:56 AM