FxWirePro: Wise to activate USD/CNH long hedge on optimistic trade talks between Trump-Xi ahead of G20 summit

Everyone is waiting for the G20 Trump-Xi meeting at the end of this week. At this juncture, the market is expecting to see another trade truce, as the US and China did in the last G20 meeting in Argentina. Hence, the trade talks are likely to resume after the Trump-Xi meeting. Nonetheless, after all the dramatic events happened so far this year, the market sees a tiny chance that a trade deal could be reached any time soon. Fair enough! In this case, probably the more important thing is to find out the next chance both leaders could meet. In fact, there are another two important multinational events this year, and both are scheduled in November. One is the 15th G20 Riyadh summit on 21-22 November hosted by Saudi Arabia, and the other is the APEC Economic Leaders’ summit in 16-17 hosted by Chile. Good to mark these two dates in your diary. 

USDCNY projections are revised to higher levels. Higher tariff rates and a re-ignition of the trade conflict necessitates a weaker CNY forecast profile. A weaker currency can help offset the impact on export prices from higher tariff rates, whilst the downside risks to the growth outlook also point to downside risks to the CNY outlook. Still, we would stress that we don’t expect a repeat of the same kind of depreciation pressures that CNY saw through the middle part of 2018. This view reflects a number of factors. 

In the FX market, USD-CNY erased some losses over the past two sessions after it touched below 6.85 last Friday morning. It seems a range-trading is the most likely case this week. On a broader perspective, a breakthrough the psychologically important level of 7.00 could shift domestic perceptions around depreciation pressures and fuel capital outflow pressures. This would pressure FX reserves, domestic liquidity, and local interest rates, all else equal. Such a scenario is something the authorities may well be keen to avoid in the short term. Related to this point is the fact a sharply weaker CNY may undermine future negotiations. For instance, a rapid depreciation through 7.00 could prompt US retaliation on the remaining goods that aren’t subject to tariffs at the moment. 

A derivatives market outlook: Emerging Asian currencies are vigilant against possible weakness in the Chinese yuan. US President Donald Trump notified Chinese President Xi Jinping that a 25% tariff would be levied on the remainder USD325bn worth of Chinese goods if both leaders fail to meet at the G20 Summit on June 28-29. The 12M NDF outright for USDCNY has, for the first time since last November, started to test the psychologically critical 7 levels again. 

OTC FX updates: 

You could easily make out that the positively skewed 3m IVs of USDCNH has been stretched out on either side, whereas 6m skews are indicating upside risks. Bids for OTM call strikes up to 7.04 levels are observed (refer above nutshell). This is interpreted as the hedgers’ sentiments are inclined towards upside risks than the downside.

Trade tips: Buy 6M 40D (6.76 strike) USD calls/CNH puts vs sell 1M OTM calls of 7.10. Courtesy: Sentrix, JPM & Commerzbank

Currency Strength Index: FxWirePro's hourly CNY spot index is inching towards 16 levels (which is mildly bearish), and hourly USD spot index has bearish index is struggling at -59 (bullish) while articulating (at 13:22 GMT). 

For more details on the index, please refer below weblink: http://www.fxwirepro.com/currencyindex