China's yuan fell to its weakest in 8-1/2 years on Thursday after the U.S. Federal Reserve signaled a faster pace of rate hikes, raising concerns of more capital outflows at a time when Asia's economic powerhouse shows signs of stabilizing.
The Chinese currency drifted lower even as state-owned banks sold dollars and the authorities stepped up their defense. Borrowing rates for the yuan rose in both onshore and offshore markets, suggesting the authorities were trying to discourage speculative short-selling of the currency.
The People's Bank of China set the midpoint guiding rate at 6.9289 per dollar, just 261 pips weaker than the previous fixing.
That was early relief for the market as traders had been expecting a much weaker fixing, given the move overnight in major currencies after the Fed raised rates.
"Demand to buy dollars is quite strong today, but big Chinese banks are offering large amount of dollars around the 6.9340 area to avoid the yuan from falling too much," said a trader at a Chinese bank in Shanghai.
Spot yuan opened at 6.9350 per dollar and was changing hands at 6.9349 in afternoon trade, 279 pips away from the previous late session close and 0.09% away from the midpoint. The spot rate is currently allowed to trade with a range 2% above or below the official fixing on any given day.
Other Asian currencies such as the Indian rupee and Malaysian ringgit also fell and regional stock markets were weak after the Fed raised the target federal funds rate and signaled more rate rises than previously anticipated next year.
The global dollar index rose to 102.47 from the previous close of 101.76. China's stock market was down 0.7% while the offshore yuan stabilized close to the onshore spot levels, largely because of the tightness in the money market. Onshore yuan yields have risen recently, driven by PBOC attempts to reduce leverage and off-balance sheet funding, market worries about capital, and speculation the authorities are keeping funding conditions tight in order to discourage speculative positions against the yuan.
The interbank borrowing rate in the offshore yuan market has also been elevated in the past few weeks, with 3-month CNH rates rising to 8.16%, their highest level since Jan. 19.
"CNH liquidity is likely to remain tight - and with heightened volatility at front-end rates - in the coming weeks, amid yuan depreciation expectations, a shrinking offshore yuan deposit base, and potentially reduced yuan flows from onshore," said Frances Cheung, Asia ex-Japan head of rates strategy at Societe Generale CIB.
RISING FUNDING COST
The overnight borrowing rate also rose to 11.76367%, from 7.32233% on Wednesday. Ngan Kim Man, deputy head of treasury at China Everbright Bank's Hong Kong branch, said tight liquidity in the offshore yuan market was normal at the year-end, but Beijing's recent
measures to control capital outflows had made it even more expensive to short the yuan.
China has begun vetting transfers abroad worth $5 million or more and is increasing scrutiny of major outbound deals, even those with prior approval, as the latest move to curb fund outflows, sources told Reuters in November.
Earlier, China's biggest bank card provider UnionPay said it would tighten regulations over how mainland customers can use its debit and credit cards to purchase Hong Kong insurance products.
Meanwhile, the offshore yuan pool has been falling in the past year as market players lose interest in the currency, wary the yuan will depreciate further in the coming year.
Yuan deposits in Hong Kong fell 0.4% to 662.5 billion yuan ($96.22 billion) in October, more than 30% lower than the peak hit in December 2014.
The Hong Kong Monetary Authority said yuan deposits declined noticeably by the end of the first three weeks in November.
Zhu Haibin, chief China economist at JP Morgan, expected the yuan to break 7 per dollar in the first quarter next year and reach 7.2 by mid-year.
The Thomson Reuters/HKEX Global CNH index, which tracks the offshore yuan against a basket of currencies on a daily basis, stood at 95.75, firmer than the previous day's 95.07.