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Fear Not the Yuan: Chinese Markets Not Affecting US Treasuries
Study the relationship between long-term Treasuries and Chinese equities and you'll realize it's not as worrisome as some might think.
Howard L. Simons     

One of the downsides of market globalization and interconnectedness is we are trained to believe every hiccup here has an effect there. When our good friends at the People's Bank of China ended the one-way bet on yuan appreciation last month, I received a number of worried inquiries as to whether this was a sign of impending doom or even worse. (Side note: People's Bank of China is such a cool name. I think Goldman Sachs (NYSE:GS) should change its name to the People's Bank of Lower Manhattan and invite Bill de Blasio over to unveil the new plaque.)
 
No worries, mates. Those concerns should be reserved for currencies such as the Japanese yen, Swiss franc, and US dollar, which are used to fund carry trades -- and they're concerns that should arise only when those funding currencies start to appreciate unexpectedly. As the yuan is not a funding currency, and as it has weakened, not strengthened, we won't see the usual round of emerging market shellacking normally reserved for such occasions.
 
US Treasuries

What, then, about the relationship between Chinese markets and US Treasuries? Let's take a look at the returns for seven- to 10-year Treasuries as a function of Chinese equities' long march to nowhere over the past 6.5 years and against the excess carry return in the implicit carry trade for a yuan-domiciled investor lending money to Uncle Sam.
 
The total return on the MSCI-Barra China Free index in CNY terms is at August 2007 levels; this was the time when both the Federal Reserve and European Central Bank began their long series of financial market interventions. US Treasuries have returned 50% over this same period.  While their correlation of returns has been negative, this is simply a statistical artifact of two unrelated markets moving in different directions; there is no causation in either direction.



We can arrive at a similar conclusion for the yuan and Treasuries. Treasuries have returned 0.93% since tapering was postponed in September 2013; this qualifies for a pretty flat return in my book. The CNY:USD excess carry return between then and the yuan's peak in February was 1.69%; it lost 2.62% thereafter. Treasury returns across these two yuan periods were equivalent to each other at an 88%+ confidence level.  Restated, whatever the yuan did in either direction was fine with Treasuries.
 


Finally, if China continues in a weak-yuan policy, it will have to execute it via monetary accommodation. The end result, as noted earlier this month, will be a flow into either USD- or EUR-denominated assets; this will offset the Federal Reserve's actions in tapering QE and will be bullish for financial markets. Whether such a policy will be effective macroeconomically is another matter altogether. 
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No positions in stocks mentioned.

The information on this website solely reflects the analysis of or opinion about the performance of securities and financial markets by the writers whose articles appear on the site. The views expressed by the writers are not necessarily the views of Minyanville Media, Inc. or members of its management. Nothing contained on the website is intended to constitute a recommendation or advice addressed to an individual investor or category of investors to purchase, sell or hold any security, or to take any action with respect to the prospective movement of the securities markets or to solicit the purchase or sale of any security. Any investment decisions must be made by the reader either individually or in consultation with his or her investment professional. Minyanville writers and staff may trade or hold positions in securities that are discussed in articles appearing on the website. Writers of articles are required to disclose whether they have a position in any stock or fund discussed in an article, but are not permitted to disclose the size or direction of the position. Nothing on this website is intended to solicit business of any kind for a writer's business or fund. Minyanville management and staff as well as contributing writers will not respond to emails or other communications requesting investment advice.

Copyright 2011 Minyanville Media, Inc. All Rights Reserved.

More From Howard L. Simons
Fear Not the Yuan: Chinese Markets Not Affecting US Treasuries
Study the relationship between long-term Treasuries and Chinese equities and you'll realize it's not as worrisome as some might think.
Howard L. Simons     

One of the downsides of market globalization and interconnectedness is we are trained to believe every hiccup here has an effect there. When our good friends at the People's Bank of China ended the one-way bet on yuan appreciation last month, I received a number of worried inquiries as to whether this was a sign of impending doom or even worse. (Side note: People's Bank of China is such a cool name. I think Goldman Sachs (NYSE:GS) should change its name to the People's Bank of Lower Manhattan and invite Bill de Blasio over to unveil the new plaque.)
 
No worries, mates. Those concerns should be reserved for currencies such as the Japanese yen, Swiss franc, and US dollar, which are used to fund carry trades -- and they're concerns that should arise only when those funding currencies start to appreciate unexpectedly. As the yuan is not a funding currency, and as it has weakened, not strengthened, we won't see the usual round of emerging market shellacking normally reserved for such occasions.
 
US Treasuries

What, then, about the relationship between Chinese markets and US Treasuries? Let's take a look at the returns for seven- to 10-year Treasuries as a function of Chinese equities' long march to nowhere over the past 6.5 years and against the excess carry return in the implicit carry trade for a yuan-domiciled investor lending money to Uncle Sam.
 
The total return on the MSCI-Barra China Free index in CNY terms is at August 2007 levels; this was the time when both the Federal Reserve and European Central Bank began their long series of financial market interventions. US Treasuries have returned 50% over this same period.  While their correlation of returns has been negative, this is simply a statistical artifact of two unrelated markets moving in different directions; there is no causation in either direction.



We can arrive at a similar conclusion for the yuan and Treasuries. Treasuries have returned 0.93% since tapering was postponed in September 2013; this qualifies for a pretty flat return in my book. The CNY:USD excess carry return between then and the yuan's peak in February was 1.69%; it lost 2.62% thereafter. Treasury returns across these two yuan periods were equivalent to each other at an 88%+ confidence level.  Restated, whatever the yuan did in either direction was fine with Treasuries.
 


Finally, if China continues in a weak-yuan policy, it will have to execute it via monetary accommodation. The end result, as noted earlier this month, will be a flow into either USD- or EUR-denominated assets; this will offset the Federal Reserve's actions in tapering QE and will be bullish for financial markets. Whether such a policy will be effective macroeconomically is another matter altogether. 
< Previous
  • 1
Next >
No positions in stocks mentioned.

The information on this website solely reflects the analysis of or opinion about the performance of securities and financial markets by the writers whose articles appear on the site. The views expressed by the writers are not necessarily the views of Minyanville Media, Inc. or members of its management. Nothing contained on the website is intended to constitute a recommendation or advice addressed to an individual investor or category of investors to purchase, sell or hold any security, or to take any action with respect to the prospective movement of the securities markets or to solicit the purchase or sale of any security. Any investment decisions must be made by the reader either individually or in consultation with his or her investment professional. Minyanville writers and staff may trade or hold positions in securities that are discussed in articles appearing on the website. Writers of articles are required to disclose whether they have a position in any stock or fund discussed in an article, but are not permitted to disclose the size or direction of the position. Nothing on this website is intended to solicit business of any kind for a writer's business or fund. Minyanville management and staff as well as contributing writers will not respond to emails or other communications requesting investment advice.

Copyright 2011 Minyanville Media, Inc. All Rights Reserved.

More From Howard L. Simons
Daily Recap
Fear Not the Yuan: Chinese Markets Not Affecting US Treasuries
Study the relationship between long-term Treasuries and Chinese equities and you'll realize it's not as worrisome as some might think.
Howard L. Simons     

One of the downsides of market globalization and interconnectedness is we are trained to believe every hiccup here has an effect there. When our good friends at the People's Bank of China ended the one-way bet on yuan appreciation last month, I received a number of worried inquiries as to whether this was a sign of impending doom or even worse. (Side note: People's Bank of China is such a cool name. I think Goldman Sachs (NYSE:GS) should change its name to the People's Bank of Lower Manhattan and invite Bill de Blasio over to unveil the new plaque.)
 
No worries, mates. Those concerns should be reserved for currencies such as the Japanese yen, Swiss franc, and US dollar, which are used to fund carry trades -- and they're concerns that should arise only when those funding currencies start to appreciate unexpectedly. As the yuan is not a funding currency, and as it has weakened, not strengthened, we won't see the usual round of emerging market shellacking normally reserved for such occasions.
 
US Treasuries

What, then, about the relationship between Chinese markets and US Treasuries? Let's take a look at the returns for seven- to 10-year Treasuries as a function of Chinese equities' long march to nowhere over the past 6.5 years and against the excess carry return in the implicit carry trade for a yuan-domiciled investor lending money to Uncle Sam.
 
The total return on the MSCI-Barra China Free index in CNY terms is at August 2007 levels; this was the time when both the Federal Reserve and European Central Bank began their long series of financial market interventions. US Treasuries have returned 50% over this same period.  While their correlation of returns has been negative, this is simply a statistical artifact of two unrelated markets moving in different directions; there is no causation in either direction.



We can arrive at a similar conclusion for the yuan and Treasuries. Treasuries have returned 0.93% since tapering was postponed in September 2013; this qualifies for a pretty flat return in my book. The CNY:USD excess carry return between then and the yuan's peak in February was 1.69%; it lost 2.62% thereafter. Treasury returns across these two yuan periods were equivalent to each other at an 88%+ confidence level.  Restated, whatever the yuan did in either direction was fine with Treasuries.
 


Finally, if China continues in a weak-yuan policy, it will have to execute it via monetary accommodation. The end result, as noted earlier this month, will be a flow into either USD- or EUR-denominated assets; this will offset the Federal Reserve's actions in tapering QE and will be bullish for financial markets. Whether such a policy will be effective macroeconomically is another matter altogether. 
< Previous
  • 1
Next >
No positions in stocks mentioned.

The information on this website solely reflects the analysis of or opinion about the performance of securities and financial markets by the writers whose articles appear on the site. The views expressed by the writers are not necessarily the views of Minyanville Media, Inc. or members of its management. Nothing contained on the website is intended to constitute a recommendation or advice addressed to an individual investor or category of investors to purchase, sell or hold any security, or to take any action with respect to the prospective movement of the securities markets or to solicit the purchase or sale of any security. Any investment decisions must be made by the reader either individually or in consultation with his or her investment professional. Minyanville writers and staff may trade or hold positions in securities that are discussed in articles appearing on the website. Writers of articles are required to disclose whether they have a position in any stock or fund discussed in an article, but are not permitted to disclose the size or direction of the position. Nothing on this website is intended to solicit business of any kind for a writer's business or fund. Minyanville management and staff as well as contributing writers will not respond to emails or other communications requesting investment advice.

Copyright 2011 Minyanville Media, Inc. All Rights Reserved.

More From Howard L. Simons
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