So China's Been Dumping Treasuries

$94bn. That's how much China's foreign exchange reserves fell in August alone. Decades of trade surplus have led China down the path of building the world's largest balance of payment surplus, and hence foreign reserves.

A majority of its foreign reserves are in the form of U.S. treasury paper; only a small fraction lies in gold (even after the most recent revelations of Beijing's latest bullion holdings). Hence, a $93.8bn depletion of foreign reserves might sensibly equate to just about as much sales of U.S. treasuries.

But Are We Worried? 

 Earlier on Monday (7 September 2015), China's PBoC report on its foreign exchange reserves of $3.557trn at the end of August, the lowest since mid-2013. China's foreign reserves started declining form its zenith in April 2014 and has been on a constant downtrend ever since. This trend has accelerated somewhat in recent months, with August itself seeing a $93.8bn drawdown.  Chart courtesy of Zero Hedge

Earlier on Monday (7 September 2015), China's PBoC report on its foreign exchange reserves of $3.557trn at the end of August, the lowest since mid-2013. China's foreign reserves started declining form its zenith in April 2014 and has been on a constant downtrend ever since. This trend has accelerated somewhat in recent months, with August itself seeing a $93.8bn drawdown.

Chart courtesy of Zero Hedge

Are you kidding us? China has barely "dumped" more than $100bn in short term treasuries of the hundreds of billions, if not trillions it has in its stash. Are we worried? About what? For crying out loud!  This is classic fearmongerIng that people should absolutely not buy, but they still do.

Remember when the exact same story surfaced in 2014 when sanctions had hit Russia hard? The media were reporting Russia dumping U.S. treasuries at the fast pace in record, and that as a result would crash the U.S. financial system and send yields soaring. More than a year later and exactly the opposite has happened. Yields are lower, the Fed is in path to tightening monetary policy because its economy is doing pretty ok.

So are we worried? You bet not. We're actually kinda enjoying this comedic replay of sloppy financial journalism the public has gotten so used to.

A Brief Explanation

 China's PBoC has been fixing the yuan (Renminbi) higher after its surprise revaluation (the largest 3-day slide on record) in early August. It signal to the market that the PBoC was intent on further competitive devaluations, spuring speculative selling pressure on the offshore yuan (CHN). As a result, the PBoC has reacted by buying onshore yuan and selling foreign reserves, maintaining a relatively tight range against the dollar in the last 4 weeks.   Chart courtesy of Zero Hedge

China's PBoC has been fixing the yuan (Renminbi) higher after its surprise revaluation (the largest 3-day slide on record) in early August. It signal to the market that the PBoC was intent on further competitive devaluations, spuring speculative selling pressure on the offshore yuan (CHN). As a result, the PBoC has reacted by buying onshore yuan and selling foreign reserves, maintaining a relatively tight range against the dollar in the last 4 weeks. 

Chart courtesy of Zero Hedge

 This chart of the offshore yuan (USDCHN) is the key benchmark for traders to watch. On previous occasions, the offshore yuan has signal moves by the PBoC of ether fixing the CNY higher or lower. We plotted a medium term (MT) 2-sigma channel and a shorter term (ST) 2-sigma channel to try draw upper and lower bounds to where the yuan should logically traded based on the last 30 days' history.  Chart by Business Of Finance

This chart of the offshore yuan (USDCHN) is the key benchmark for traders to watch. On previous occasions, the offshore yuan has signal moves by the PBoC of ether fixing the CNY higher or lower. We plotted a medium term (MT) 2-sigma channel and a shorter term (ST) 2-sigma channel to try draw upper and lower bounds to where the yuan should logically traded based on the last 30 days' history.

Chart by Business Of Finance

It has been all the rage amongst the financial community; China's massive intervention in both its stock market (estimated by Goldman to be at $238bn) and currency, the yuan (renminbi) have garnered widespread attention from both the markets and policy makers.

Unless you've been living under a rock for the last 2 to 3 months, you would know pretty well that the Chinese economy is not at all in good shape. Do a search on our pages about China and you'll be enlightened at just how complicated things really are in the mainland. It's too much for us to banter about (you can read Goldman's take on the latest official foreign reserve figures at the end of the note).

Cutting to the chase, understand that the PBoC (China's central bank) has been directly intervening via daily fixes of the yuan to stem speculative downward pressure on the yuan. The consensus is that China might be on a path to devalue the yuan by c. 10% against the dollar.

The market is obviously selling while the PBoC has been buying. To buy yuan, China has to sell its reserves (U.S. dollars or treasury paper), or as the press would put it, "dump U.S. government bonds". But how long can this last? And is it anything of a big deal?

We are of the notion that the PBoC will ultimately relent to market pressures and allow the yuan to be depreciate gradually. Trade isn't good, its economy is no longer seeing accelerated growth, and its stock market is in tatters. Makes little sense to keep the yuan dear, just so not to instigate outright competitive, tit-for-tat devaluation (which has somewhat already transpired).

Goldman's take on Monday's release:

"The People’s Bank of China (PBOC) reported that its foreign exchange reserves dropped by US$94bn in August, to US$3.557tn at the end of the month. However, it is not straightforward to derive the actual scale of FX reserves sales from the headline FX reserves data, given uncertain valuation effects and possible balance sheet management by the PBOC. It is possible to get an approximate sense about valuation effects stemming from currency movement: e.g., assuming the currency composition of the PBOC’s FX reserves broadly follows that of the average country’s (using the IMF COFER weights, which suggest roughly 70% in USD for EM countries), the currency valuation effect would probably be positive to the tune of roughly US$20bn (i.e., if we only look at the change in headline FX reserves as a gauge of sales of FX reserves, sales of FX reserves might have been underestimated by around US$20bn, given the currency valuation effect). However, besides currency movements, there could also be significant valuation effects from changes to the market prices of the PBOC’s investment portfolios, and the direction and size of those effects is hard to measure given the uncertainty of the asset composition. Moreover, there could also be possible short-term transactions and agreements between the PBOC and banks that may complicate the interpretation of the change in FX reserves as an underlying measure of RMB demand."