Strategy. Our forecast is for a weaker CNY than priced in the forward market and we continue to recommend hedging of receivables. While there are no signs of stress at this point, the risk is that outflows could reignite if (a) the Fed hikes faster than expected driving prolonged USD strength, (b) debt worries intensify and/or (c) the cyclical recovery fades. Hence, from a risk management perspective, protection against renewed CNY pressure is also prudent in our view.
USD/CNY. Following a period of consolidation, the CNY has recently weakened again versus the USD. We see no signs of stress at this point but continue to look for more weakness ahead, with USD/CNY rising to 6.85 in 12M from the current level of 6.55.
EUR/CNY. Given our view of euro appreciation versus the USD, this implies an even bigger weakening against the euro. Our forecast for EUR/CNY over the coming 12M is 8.08 from the current level of 7.35 - a depreciation of around 10%.
CNH-CNY spread. This spread continues to be tight and we recommend hedging through the CNH market rather than CNY non-deliverable forwards. We see limited basis risk but, if anything, the risk is that CNH drifts a bit weaker than CNY if overall depreciation pressure picks up.
CNY basket. In 2015, China changed officially to managing against a currency basket ending decades of managing against the USD. In August 2015, the People's Bank of China (PBoC) said the currency was at its equilibrium level when the basket index was around 100. The basket is currently 3% weaker than this level but we believe China will be flexible in letting the CNY weaken up to 5-10% versus its estimated 'equilibrium' level, as it has highlighted that it will allow markets a bigger role.
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