Next week’s G20 summit in Toronto offers a near term forum for leaders of the world’s largest economies to express views and concerns relating to economic conditions and global the recovery. Right on cue, China has moved to ease tensions and divert focus away from their exchange rate policy. On Saturday afternoon the PBOC issued a statement declaring they have decided “to proceed further with reform of Renminbi exchange rate regime and to enhance Renminbi exchange rate flexibility”. China’s policy of pegging the Yuan to the USD at an undervalued level has led to much criticism as it gives an advantage to Chinese exports. Even with their economy seemingly overheating, and with inflationary pressures mounting, the PBOC have remained reluctant to allow the Yuan to appreciate against the dollar despite public discontent.
The PBOC’s move to a more flexible exchange rate policy will have repercussions for the currency market, and as traders it is of paramount importance to understand the impact this move will have. We have been bullish on USD/JPY since the beginning of the year, basing our bias on the Federal Reserve implementing interest rate hikes later this year or at in the 1st quarter of 2011 and the consequent unwinding of USD funded carry trades, along with Japan’s need for a weaker YEN and reversal of safe haven flows. But the charts going back to the last revaluation which began in 2005 show the YEN strengthened alongside the Yuan, albeit not immediately. One of the reasons for this could be that Japanese exports became more competitive, thus increasing demand for the Japanese currency. However, an alternative argument would be the YEN move was intertwined with the financial crisis and was significantly impacted by the flight to safety and unwinding of YEN funded carry trades. Whatever the reason, traders holding long USD/JPY positions may want to reduce some exposure by either closing some positions and reducing leverage, or entering partial hedges in a bid to manage their risk.
In our opinion those of you expecting a sharp appreciation within a short period of time are likely to be disappointed as in recent months the U.S dollar has rallied significantly against the Euro, therefore so has the Yuan due to its inflexible peg. Chinese authorities could argue that the Yuan has strengthened indirectly against other currencies and consequently have ground to impose a gradual appreciation, rather than a one off big move.
The PBOC’s move to a more flexible exchange rate policy will have repercussions for the currency market, and as traders it is of paramount importance to understand the impact this move will have. We have been bullish on USD/JPY since the beginning of the year, basing our bias on the Federal Reserve implementing interest rate hikes later this year or at in the 1st quarter of 2011 and the consequent unwinding of USD funded carry trades, along with Japan’s need for a weaker YEN and reversal of safe haven flows. But the charts going back to the last revaluation which began in 2005 show the YEN strengthened alongside the Yuan, albeit not immediately. One of the reasons for this could be that Japanese exports became more competitive, thus increasing demand for the Japanese currency. However, an alternative argument would be the YEN move was intertwined with the financial crisis and was significantly impacted by the flight to safety and unwinding of YEN funded carry trades. Whatever the reason, traders holding long USD/JPY positions may want to reduce some exposure by either closing some positions and reducing leverage, or entering partial hedges in a bid to manage their risk.
In our opinion those of you expecting a sharp appreciation within a short period of time are likely to be disappointed as in recent months the U.S dollar has rallied significantly against the Euro, therefore so has the Yuan due to its inflexible peg. Chinese authorities could argue that the Yuan has strengthened indirectly against other currencies and consequently have ground to impose a gradual appreciation, rather than a one off big move.
