A woman looks at a stocks display board showing the Hang Seng Index (HSI) down by 5.56 percent after trading closed for the day in Hong Kong on May 22, 2020. - Real estate companies and financials were among the biggest victims in a stock market sell-off in Hong Kong after China submitted a security law proposal for the city that has fanned fears of fresh protests. Photo: A. Wallace / AFP

Hong Kong stocks crashed (HSI -4.03%), mainland China stocks dropped sharply (CSI300 -2.29%) and the rest of Asia was down in a 0.8 to 1.5% range, in line with the US overnight lead.

This black Friday was a Hong Kong/China-specific one, prompted by the opening day announcement at China’s National People’s Congress that a national security law for the Hong Kong Special Administrative Region would be promulgated in the near future.

Promulgation of such a law is not in and of itself an issue. Hong Kong’s Basic Law governing its special “one country, two systems” status requires the introduction of such a law. Attempts to do so in 2003 failed. Now it’s been put on the agenda again.

But, of course, now is not 2003 and the explicit motive for raising the issue again at this time is China’s determination not to permit Hong Kong to descend into “Laam chau! Laam chau!” (If we burn, you burn with us) violent political chaos again as happened last summer and autumn.

Markets are concerned that Beijing’s strategy may backfire and prove the very spark to reignite last year’s fires.

And it’s not only about Hong Kong. The National Security Law controversy has every potential of sharply further worsening US-China relations.

The People’s Bank of China (PBoC) set yuan parity at a week 7.0939 on Friday. It did not stay there for long and by 7pm HK time the yuan had dropped sharply to 7.1351, its weakest level since early April, which – in turn – was the weakest level since early 2008. And CNH traded substantially weaker than that, at 7.1545.

Currency traders are betting that renewed chaos in Hong Kong, through which large portions of China inbound capital flow, could prevent orderly capital flows through established channels.

Note in this context that not only the yuan, but also the Hong Kong dollar (HKD) took a hit today and moved off its limit to the USD to 7.7557.

These are trying days for foreign investors in Chinese securities. Identifying the appropriate hedge against further yuan weakening as the Hong Kong drama plays out will prove a tough challenge.

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