We were treated to a new and incredible rumour yesterday: the defection to the United States of Peoples Bank of China Governor Zhou Xiaochuan, following the loss of over $400bn. We sent a Bloomberg message on the rumour yesterday at 7: 28 PM (‘New silliness?’).
We deemed this rumour, transmitted by the highly respected geostrategic web site, Stratfor (China: Rumors of the Central Bank Chief's Defection) and picked up by the FT blog this morning (Where’s Zhou Xiaochuan?), more than a little silly, since it is hard to imagine how China, with the world's largest treasuries portfolio, could possibly lose 40% of its investment value given that the value of these government issued securities have been continuous growing following the decline in interest rates!
What is funny is that this rumour helped push up 1-month interbank rates (RP1M) to 3% from 2%. They returned to 2.20% this morning, in the wake of denials issued by Chinese and Japanese authorities. (‘Chine: pas de départ à la Central Bank’).
But what I find most interesting is China's decision to lower the yuan against the dollar in the past few weeks, after it said it was de-pegging it from the greenback to deflect criticism a week before the G20 summit of 26-27 June.
During the last de-pegging in July 2005, the Middle Kingdom let its currency appreciate in three years to 6.81 from 8.27, amounting to an annual rate of 6.25%, with an initial boost of 2%.
That is not how things turned out this time. After again allowing their currency peg to stabilise for two years due to the Great Financial Crisis, Chinese officials "freed" it from its peg 19 June with a minimum initial adjustment of 0.90% and, especially, with notice that it would be allowed to exchange more freely and thus be more volatile, while warning that the yuan could decline against the dollar if need be.
Aside from the degree of credibility to the claim of a "freer" float, one thing is for sure: the yuan has been effectively declining against the dollar for the past three weeks.
It is difficult to imagine that the United States will welcome this shift, given the new worsening of their trade balance.
The two countries' bilateral deficit for June (TBBLCHNA), published in the United States, is hovering near a record high, at around $26.15bn.
Moreover, Chinese exports to the United States hit a new peak in July, according Chinese statistics (CHEXUS), which should further aggravate the trade imbalance.
Given that nothing is left to chance with respect to the yuan at the Peoples Bank of China, the question is: What is the Chinese up to?
And incidentally, since the yen continues to appreciate against the dollar (by over 30% since 2007), reaching its peak of 1995 (83-84 Y/$), the Land of the Rising Sun is suffering from this dual adjustment, because the yuan continues to fall against the yen.
One of the direct consequences of the yen's renewed strength is the decision announced yesterday by Renault-Nisson boss, Ghosn, to refocus the expansion of manufacturing capacities to South Korea as opposed to Japan.
Yuan and yen versus the dollar
Any adjustment goes through the Japanese currency!
Have a good day.
Asset allocation biases and advised option strategies
· The long-term macro biases remain downward on eurozone government yields and negative on risky assets (equities, European real estate, commodities) and a deflation/depression scenario, which will require much more effort by the ECB than a shame-faced QE.
· Our short-term tactical biases: We continue to look for an opportunity to bet on a resurgence of the Bund (the negative call ratios and long theta strategies proposed this morning) and a rebound of the Eurostoxx (call ladder), but the timing is more delicate.
We are quickly approaching our long-term targets of 2% on 10-year German debt. Playing lower in the short-term would amount to betting on the end of Europe, a scenario I consider to be utterly foolish.
But who knows: perhaps I am a prisoner of my own "Animal Spirits"?
Given the current uncertainty, a number of clients have constructed October Bund call and put ratios to take advantage of the high level of implied option volatility (7.50%) and thus rake in the premium and the theta, with relatively distant danger points (4 points from the money).
Disclosure: Long 20 years OAT and 30 years BTP Zero Coupons, EDF Corp 5 Years 4.5%, Grece 2 Y and 10 Y bonds, Long Eurostoxx50 ETF