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Again, things have somehow made a U turn. After President Trump's "no deadline" rhetoric had rattled the market, some new information probably from the US trade delegation seems to suggest that the trade talks are still on the right track - The phase 1 deal could still be reached before 15 December as suggested by the media report.
Anyhow, all the information is more or less the same: There are obstacles, but the hope is still alive. USDCNY witnessed a roller coaster movement yesterday, and finally returned to 7.05 level. The trade talks have become a marathon and also a ping-pong game. Unfortunately, the market can only take actions passively. We can only wait to see what will happen in the coming days.
China is acceptable of a stable CNY only up to a certain point. Flexibility in the exchange rate is needed to ensure monetary policy independence and a weaker exchange rate over the medium term may still be needed to ensure China’s transition to a lower economic growth rate is a sustainable one. From the last 2-3 months, the USDCNY has been dipping constantly but the major uptrend remains intact, a break below 7.00 levels would put USDCNY comfortably below the tariff neutral level. This is also an important difference between conditions now and those that prevailed in 2018. At that time, USDCNY was trading above tariff neutral levels. Hence it was easier to justify a rebound in CNY after the trade truce at the beginning of December. The other key difference is that cyclical conditions are decidedly weaker now compared to the end 2018 period.
Trade Strategy: At this juncture, we remain short in CNH on hedging grounds via 3-month (7.00/7.25) debit call spread. If the scenario outlined above unfolds, we will re-assess our stance but at the moment there are no changes to our CNH recommendations. The positively skewed IVs of 3m tenors indicate that the upside risks of USDCNH are foreseen, bids for OTM calls upto 7.25 levels substantiate the bullish risks (refer 2nd exhibit). Courtesy: Sentrix & Commerzbank
