Spot USD/CNH fixing in HK poised to become derivatives benchmark

Hong Kong interbank participants have created the first US dollar to offshore renminbi price fixing giving the city first-mover advantage in becoming an offshore centre for renminbi products such as derivatives, say market participants

The creation of a new offshore spot USD/CNY (HK) fixing in Hong Kong is expected to promote the development of offshore renminbi derivatives in the city. The development is likely to benefit FX options business as well as enable the trading of over-the-counter contracts with longer tenors, say bankers in Hong Kong involved with the offshore renminbi business. Offshore renminbi is frequently referred to as CNH by many traders.

Lawrence Lam, chair of the Treasury Markets Association (TMA) market practices committee and chair of RBS greater China, based in Hong Kong, says while the new USD/CNY (HK) fixing is unlikely to spur a sudden, explosive growth of offshore renminbi-denominated derivatives, it represents a highly recognised and credible benchmark for trading offshore renminbi spot, on which long-term derivatives contracts can be referenced.

There is nothing to stop interbank participants in other financial centres vying to become offshore renminbi hubs, such as Singapore and London, developing their own offshore renminbi fixings. But Lam says once an investor starts to open derivatives positions using the Hong Kong fixing, it will become almost necessary for the investor to square off and close out the long position with the same spot USD/CNY (HK) fixing. This means Hong Kong could gain a first-mover advantage.

"If I enter into a derivatives contract based on the spot USD/CNY (HK) fixing, when I eventually square off my position based on a different fixing, this would incur basis risks for me due to the potential difference between the two fixings – and why should I need to bear such basis risks?" says Lam. This means the more people start to open a position using the spot USD/CNY (HK) fixing, the more they would opt to close out based on the same fixing.

The TMA is the trade association tied to the Hong Kong Monetary Authority, the territory's de facto central bank, and has a mission to develop appropriate codes and standards for the treasury markets in Hong Kong. The latest spot USD/CNY (HK) fixing is not its first offshore benchmark for the exchange-controlled currency – in December 2006, the TMA also introduced the renminbi swap offer rate, which industry players say represents the price difference between the renminbi non-deliverable forwards and the onshore renminbi fixing.

For the latest spot USD/CNY (HK) fixing, one banker tells Asia Risk the association is keen to avoid using the currency symbol CNH, which is now commonly used to denote offshore renminbi deliverables in Hong Kong, because in China, government officials and banking industry participants argue there could only be one form of renminbi – CNY – regardless of the degree to which the currency is allowed to be traded, converted, delivered or settled outside China.

On June 30, the new spot USD/CNY (HK) fixing, which was set at 11.00 am Hong Kong time, was at 6.4661; in China, the onshore daily mid-point fixing announced at 9.15 am by the People's Bank of China was at 6.4716.

A total of 15 banks are contributors for the calculation for the new offshore spot fixing, which is done by Thomson Reuters. Michael Tsang, managing director of treasury for Asia, at Thomson Reuters, says CNH spot-trading volumes on its electronic trading platform saw a general pick-up in and outside Asia since the new fixing was launched Monday.

"We are seeing continued growth in liquidity for CNH on Thomson Reuters Matching, not just out of Hong Kong, but also regionally in Singapore and internationally out of London and New York," says Tsang, who did not comment on its volume figure. Apart from Thomson Reuters, interdealer broker Icap also trades spot CNH on its EBS electronic platform.

Justin Chan, deputy head of global markets for Asia-Pacific and head of Hong Kong trading at HSBC, says the new spot fixing has made it possible for investors in CNH deliverable options to take cash settlement, instead of just physical settlement, whereby the writer or the buyer must receive the entire amount of the renminbi upon exercise.

"Once we have fixing in place, the two parties can set the exercise price with a view to cash-settle the contract," says Chan. "So upon exercise, the settlement could be done by working out the difference between the contract rate and the fixing, and settle payment on that difference; rather than deliver the whole amount of renminbi as determined when an order is placed."