China increasing Forex investments to keep the Yuan in check

China opens a new US Forex office to diversify away from US Treasuries.

One of they key themes we’ve been following lately has been China relaxing its rules governing Forex movements and trading, which has been a key catalyst behind the rapid growth of retail FX trading among Chinese retail FX traders. (We even posited that one of the key reasons for FXCM’s attempt to buy Gain Capital was Gain’s strong market position in China FX.

What we haven’t addressed though is… why? Why are Chinese authorities allowing the Yuan to trade in a wider band, and making it easier to move foreign currency into and out of the country?

The answer is simple — the Chinese government has a never-ending thirst for foreign currency. To keep Chinese factories humming and competitive the Chinese government must keep the Yuan from rising too fast. They do that by constantly buying foreign currency (thereby selling / dumping Yuan) in massive amounts — mainly US dollars, but more recently also Euros and Yen. Relaxing the rules is necessary for bringing more and more foreign currency into the country — and as a ‘side effect’ it has expectedly made the Yuan more interesting to trade.

So what has the Chinese government done with its massive purchases of US Dollars. Until now it has been mainly buying good ‘ol US Treasuries — virtually the only market big enough for them to play in without ‘becoming the market’, or moving the market with their purchases. However an interesting WSJ article has pointed out a shift in Chinese strategy, away from Treasuries and into all manner of other asset classes and currencies — in part due to necessity (only so many Treasuries they can own), and in part to diversity away from a potential drop in Treasury values, if interest rates globally ever start to move up again.

The WSJ actually has reported that China’s State Administration of Foreign Exchange (SAFE) has set up a new office in New York to identify and invest in things specifically other than U.S. Treasuries.

The likely result for retail FX — well, more of the same. Absent some major shock to the system, we expect the Chinese retail FX market to continue to grow nicely, as more and more volatility creeps in to the Yuan, and as general awareness of currencies increases in China and the Far East region.

For more on the global Forex industry see the LeapRate-Dow Jones Forex Industry Report.

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