We are looking for USD/CNH to move higher in the coming weeks – Our view of the fundamentals, and key technical levels are below...
China has a weak economy can the authorities change this? “Soft inflation data in China overnight reinforces our view that consumer sentiment in the mainland economy remains weak. The discussion around reviving the property market and consumer sentiment will be the main topic at the Third Plenum meeting next week. The consequences of subdued economic growth mean the retreat from 7.30 for USD/CNH may be short-lived.” ( SOCIETE GENERALE) We agree for the following reasons:
The Third Plenum
“Of the countless meetings that China’s Communist Party holds regularly, the Third Plenum stands out for its potential impact on the world’s second-largest economy. The typically once-in-five-years conclave of top officials usually deals with major economic and political policy changes.” (BLOOMBERG)
The meeting is happening later than many expected. It is normally held in the fall following the twice-a-decade selection of new party leaders the previous year so why the delay?
Many forecasters believe that the delay indicates a consensus over how to tackle a property market which continues to contract, weak consumer demand and confidence and high debts at both Government and public levels. There is a lot of debate on what the Chinese will do and many are optimistic about kickstarting growth but a look at debt levels in China shows there are no easy or quick fixs.
China Debt and Property Bubble
China's gross national debt is a staggering 300 percent of GDP and the property market which is the biggest asset class in the world ( which is far bigger than the US stock or bond markets) is continuing to contract. After decades of excess in China, the authorities will have no way to reverse the downward trajectory of the economy.
Also to compound problems China faces trade wars with the West.
In terms of the Chinese economy it will remain weak foreign investment is falling and will probably fall further – the USD also has an interest rate advantage which should remain in place as we move forward. This makes us bullish the USD while the volatility is not big in this pair an attractive carry and the potential for USD appreciation keeps us bullish.
Yuan Devaluation to Send USD Up but Will the PBOC Devalue?
China’s leaders plan to ease monetary policy and cut bank reserve requirements and interest rates — which they alluded to at the April Politburo meeting. Five-year borrowing rates have fallen to 3.95 percent. Unless inflation in China turns up sustainably, which is unlikely interest rates are probably going toward zero.
The economy remains near deflation with soft domestic consumer demand. Loose financial conditions, further falls in some asset prices such as property, and weak investment returns will increase capital outflows, weakening the renminbi.
The last devaluation, in August 2015, saw China send the yuan down by more than 3% in just a couple of days which saw global stocks and commodities sell-off. Strategists said Chinese policymakers had grown uncomfortable with the yuan’s strength against the dollar.
This time around, the yuan’s value relative to Asian rivals like the yen could be the reason for devaluation. The Yen has taken a big hit but the upside is exports are more competitive and China might follow with a cut to raise its export competitiveness against its export rivals.
A Bloomberg article published on May 9 noted: “Yen’s fragility raises the specter of a new currency war in Asia”, ( Bloomberg) reporting that investors are concerned about a devaluation triggering such a war.
A lot of Forecasters are discounting the above but it could happen and if it does the USD will soar higher. Even without the above the yield advantage of the USD and the decline of the Chinese economy will see USD/CNH move higher.
Technical Analysis
Our view of the key levels of support and resistance to look out for are below.
