FxWirePro: USD/CNH seagull structure for next phase of Chinese currency depreciation

2016 year-end forecast of USDCNY at 6.85 is firmly upheld. The prospects of a Fed hike before year-end and a rise in capital outflows would likely to drive further Chinese offshore currency depreciation.

We also hold the bias that the PBoC would let further weakness in CNY after the September G20 summit, as a policy reaction to the IMF’s suggestion to allow market forces to guide the exchange rate and move more towards a floating FX regime.

In addition, as downside risks to growth increase in Q4, the motivation to ease financial conditions via lowering Renminbi’s trade weight index will become more compelling again, especially considering the CFETS TWI has been range bound around 94 since July.

This structure is a standard 1y call spread strikes 6.85/7.20 half financed by selling a put strike 6.55, offering beyond 7.20 a maximum leverage of 11 times at the expiry. With no digital risk involved and thanks to the limited convexity of long-dated options, the position can be conveniently delta-hedged if the spot moves lower in the early stages.

Buy USDCNH 1y Seagull strikes 6.55/6.85/7.20 Indicative offer: 0.42% (vs 0.82% for the call spread strikes 6.85/7.20, spot ref: 6.6450)

Rationale: USDCNH higher highs and higher lows, the next wave of RMB depreciation would see USDCNY trade in a likely range of 7.00-7.20 by mid-2017 (the Q2 2017 point forecast is 7.10).