Red letter day: A pedestrian walks in front of HSBC's headquarters in downtown Hong Kong.
Photo: Anthony Wallace/AFP
Red letter day: A pedestrian walks in front of HSBC's headquarters in downtown Hong Kong. Photo: Anthony Wallace/AFP

The yuan took a roller coaster ride on Monday after Beijing lowered the currency’s daily reference exchange rate by a massive 594 basis points to 6.9262 yuan to the US dollar. The move partially reversed sharp gains from the previous week resulting from an ambush by Chinese authorities on short sellers of the yuan in offshore markets through prohibitive funding costs.

The People’s Bank of China had fixed the yuan reference rate 639 basis points higher at 6.8668 yuan on Friday, the biggest single-day uptick since 2005.

Both onshore and offshore yuan traded weaker against the greenback during Asian hours on Monday. The two currency quotes slumped to as low as 6.9343 and 6.8896, before ending the Monday session at 6.9327 and 6.8782, respectively.

The lower fixing rate came on the foot of a stronger dollar, which gained after a US job report showed strong wage gains, increasing the likelihood that the Federal Reserve will ratchet up interest rates in the coming year.

Despite the volatility in the currency pair, Monday marks the fourth day that the offshore yuan has traded at a hefty premium to the onshore rate — roughly 0.7%, which is the widest disparity since 2010. The extraordinary spread between the two is being driven by the exorbitantly high interest rate in the offshore market.

Chinese authorities have allowed liquidity in the offshore yuan market to run dry since the beginning of December, permitting a steady rise in interest rates that culminated in a stampede by traders to exit yuan short positions on Thursday and Friday. With one currency and two very different interest rates, the episode serves to show that China’s capital controls are proving rather effective.

Overnight funding expenses for the Chinese currency in Hong Kong’s offshore market surged to more than 61% on Friday, a prohibitively high interest costs for traders to maintain their bearish bets on the yuan and over 30-times comparable rates onshore. On Monday, the one-day rate pulled back dramatically but remains over 14%. The one-week funding cost fell to around 18% from nearly 25% last Friday. Nonetheless, at these rates, the funding markets for offshore yuan remains firmly shut.

On a lighter note, short-term repo rates in the Shanghai interbank market suggest the risk that offshore volatility will spill over into the domestic market is abating. The ultra short-term Shanghai interbank offered rate fell to 2.09% on Monday. The onshore rates are gradually trending lower following a year-end climb that peaked at 2.32% on December 23. The interest rate for one-day borrowing in Shanghai had receded to just 2.11% by the end of last week.

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