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China's yuan rebounded against the dollar in the spot market on Wednesday after the Chinese central bank set a strong mid-point, reassuring the market that it still intended to keep the yuan stable. But the Chinese currency softened further in the offshore non-deliverable forwards market, showing overseas investors' increasing concern about the health of China's economy and asset markets.
Especially after the central bank announced a surprise monetary easing on Monday. Spot yuan fell sharply against the dollar on Tuesday, nearing the lower edge of its daily trading band. But before trade began on Wednesday, the central bank set a daily yuan mid-point against the dollar of 6.8290. While that was lower than Tuesday's reference rate of 6.8203, it was much higher than Tuesday's traded close of 6.8490.
"It's clear that the central bank wants to maintain the yuan's stability for now, and this stance is unlikely to change in the immediate future," said a dealer at a major Chinese state-owned bank in Beijing.
The strong mid-point helped spot yuan rebound to close at 6.8370, after moving in a relatively wide range of 6.8320 to 6.8464. Dealers noted that the overnight decision by the US Federal Reserve to keep its benchmark interest rate unchanged was potentially negative for the yuan.
"The Fed decision will exert further downward pressure on the yuan in the short term," said a dealer at a North American bank in Shanghai. "But we feel the PBoC will resolutely defend its value to prevent potential capital outflows, given the recent plunge in Chinese asset prices."
Offshore, however, one-year dollar/yuan NDFs edged up to 6.8300 in late trade from Tuesday's close of 6.8251. That left them once again implying slight yuan depreciation against the dollar over the next 12 months from the day's mid-point.
A surge by NDFs on Tuesday, in the wake of the Chinese monetary easing, caused one-year NDFs to imply yuan depreciation for the first time in five years. Dealers said that unless the dollar pulled back sharply in global markets, NDFs were likely to remain supported in coming days and weeks by weakness in China's stock and property markets. The Shanghai Composite Index sank 2.9 percent to a fresh 22-month low on Wednesday.
But traders said the market was also unlikely to push NDFs up to levels where they implied major yuan depreciation, given China's big trade surplus and the central bank's control over the spot rate, which it can use to punish speculators if it wishes.
"Gone are the days when NDFs showed strong investor confidence in China's economic growth and strong trade surplus," said a dealer at a major Chinese commercial bank in Shenzhen. "One-year NDFs are likely to hover around the median level between implying slight appreciation and implying slight depreciation for the foreseeable future."

Copyright Reuters, 2008

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