BNY Mellon: Curious Activity In HKD

BNY Mellon: Curious Activity In HKD


By Simon Derrick, Chief Currency Strategist

As noted before , there are occasions when forward outrights can provide a useful barometer of pressures building within a managed FX regime.

This proved the case within the European Exchange Rate Mechanism back in the 1980s and early 1990s and, arguably, for USD/CNY over the past decade and a half. The usefulness of forward outright pricing as an indicator of changing sentiment was made apparent again in the run up to the end of 2018 when the USD/CNY NDF market indicated that investors were becoming increasingly convinced that the authorities would be able (with the support of the Fed) to prevent the USD from appreciating beyond the line in the sand at CNY 7.00.

Given this it is interesting to note that from exactly the point that those pressures began to abate at the start of December, a fresh set of strains has begun to emerge in the HKD market. Indeed, as one measure of this it’s worth highlighting that there has been an 84% negative correlation between the performance of the HKD against the USD and that of the CNY against the USD over the period since December 3. In short, each time the CNY strengthened the HKD was more likely than not to weaken.

The story takes on an even more interesting aspect when it’s noted that the recent abating of upward pressure on the CNY against the USD (essentially since February 22) has coincided pretty exactly with the point that the USD has begun to bump against the upper end of its band with the HKD. However, while spot HKD has behaved as might be expected this month (with the HKMA stepping in on occasion), USD/HKD forward outrights have not only continued to move higher but (at least as far as some of the slightly longer dates are concerned) have begun to accelerate when compared to how they were behaving in December and January.

While there is no question about the HKMA’s ability and commitment to successfully defend the band, the emergence of these pressures is very curious. In particular they are curious precisely because there is no question about the HKMA’s ability and commitment to successfully defend the band. Indeed, this was exactly why the report by Bloomberg from earlier this week of buying of deep out of the money HKD puts was also so noteworthy.

For the moment forward outrights continue to trade below the HKD 7.85 edge of the band established in 2005. However, the shorter dates are rapidly approaching this edge. To date the only time that forward outrights (at least those out to one year) have ever breached the top of the band came in January 2016 at the time devaluation pressures began to build on the CNY (in that case it was the longer dated outrights that broke the level). It will therefore be interesting to see what happens if the outrights break through this time. It will also be interesting to see whether, this time, it coincides with CNY strength.