(Bloomberg) — Global funds’ purchases of Chinese bank notes suddenly slowed in August as a strengthening yuan and a likely pullback in currency intervention made a popular swap-based trade less appealing.
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Foreign institutions bought a net of just 28 billion yuan ($4 billion) of negotiable certificates of deposits issued by Chinese banks in August, according to data released Wednesday. That’s barely a quarter of the purchases in the prior month, and the least since October 2023.
The short-term notes had become popular with foreign traders looking to park their yuan, after Chinese state banks offered enticing returns to swap for their dollars. While it’s unclear how much of the NCD purchases were funded by dollar-yuan swaps, Chinese lenders had built swap positions exceeding $100 billion since last year, Bloomberg reported earlier this month.
The foreign-exchange positions built by Chinese banks helped support the yuan when it was weakening earlier in the year against the dollar. However, the greenback has slipped against just about every Asian currency this quarter as traders bet that the Federal Reserve will cut interest rates. That eroded the need for the Chinese swap trades.
Easing yuan depreciation pressure has shrunk the arbitrage opportunity in NCDs, said Xing Zhaopeng, a senior China strategist at Australia & New Zealand Banking Group Ltd. He expects foreigners’ position in the securities to further decline as the trades mature.
A trader who exchanges dollars for the yuan in China’s onshore swap market and invests in one-year NCDs can obtain a return of about 4.7%, compared with 6% three month ago, according to calculations by Bloomberg. The returns are still higher than the one-year US Treasury yield.
The yuan appreciated nearly 2% against the greenback in August, its best month in nine months, as traders ramped up bets on the Fed’s easing. The Fed cut interest rates by half a percentage point on Wednesday and signaled further reductions in the months ahead.
–With assistance from Shulun Huang.
(Updates with more details and a second chart)
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