FxWirePro: Is Deflation Risks Revolving Around Chinese Yuan? Uphold USD/CNH Hedges Via Debit Call Spreads

Chinese yuan has been gaining considerably from the last couple of days. USDCNY seems to have stabilized somewhat below the 7.10 mark for now. By and large, the market has returned to where it was before the Hong Kong issue. Again, US-China relations are the key factor influencing the CNY exchange rates, but it appears that both sides have taken a step back for the time being, while the overall tone remains hostile. In the meantime, the CNY exchange rates followed the recent risk-on mode across EM markets, re-gaining the losses since the Hong Kong issue.

Moreover, China's inflation momentum has been slowing significantly, with CPI falling dramatically over the past few months. Economists have started to talk about deflation risks looming on the horizon, which means that the consumer demand will remain soft in the future. Hence, there seems little endogenous factor that could drive CNY stronger.

In the FX market, CNY simply ignored the seemingly negative headline reserve data, and rallied against the overall risk-on sentiment, with USDCNY below 7.05 mark.

Please be informed that the positively skewed USDCNH IVs of 3m tenors still indicate the upside risks, they are still bids for OTM call strikes up to 7.24 levels.

Hence, at this juncture, we uphold our shorts 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. Courtesy: Sentry & Commerzbank