China’s promotion of Hong Kong as an offshore renminbi settlement centre has generated more than its fair share of interest from investors, but very little from businesses engaging in cross-border trade with China, despite the country running the world’s largest trade surplus and being the world’s biggest trading partner.
According to a new report by RBS, CNH Market Guide 2011, there are three reasons for this: the timing of the CNH market launch at a time when there is so much uncertainty in developed markets, an undervalued renminbi that has made people want to hold it for investment rather than spend it on purchasing Chinese goods and the rapid but lopsided development of the trade settlement scheme.
The development so far has given rise to some questions about the future course of the CNH market.
Investors might reasonably ask why there are only $17 billion of investable instruments in Hong Kong when there are $79 billion of renminbi deposits based in the city? The problem is that global demand has overwhelmed local supply of CNH-denominated assets in Hong Kong because there are numerous prerequisites for setting up an offshore centre to offer deliverable CNY settlement. As a result, RBS expects this premium on CNH-denominated assets (currently only in the form of bonds, known also as dim sum bonds) to persist for a long while.
On the other side of the coin, traders are asking why they should bother to trade in the CNH foreign exchange market rather than the non-deliverable forward market. With no intra-day trading limits, the CNH FX market has bigger market risks and no fewer regulatory risks than the renminbi NDF market, which is fixed on the onshore renminbi spot market. Wedged between the existing NDF market and the onshore renminbi market, it has created numerous anomalies among the three. There is also the remote risk that China decides to overturn the restricted offshore deliverability of the renminbi. RBS's suggestion is thus to trade the CNH FX market only for the purpose of trade or specifically approved investments.
The full report not only chronologically lists the events that have shaped the CNH market so far, but also addresses the various issues to arrive at a full picture of the current state of the market and its outlook.
In an update to the full report, RBS discusses the challenge that China faces in liberalising its capital account and making its currency fully convertible: CNH — Be aware of the convergence risk.