Investors should reconsider their exposure to the Chinese renminbi as market conditions put it at risk of further devaluation, Pimco has said.
In a note to investors, the company said China faced a ‘trilemma’, in that it is unable to achieve a stable or fixed foreign exchange rate, free capital movement and an independent monetary policy simultaneously.
Under these circumstances, BlackRock said, the increasingly tight financial conditions imposed by the government will likely result in currency remaining an “escape valve” for investors, with capital outflows expected to continue in the short term.
“Despite China’s ever-tighter restrictions on currency movements, individuals can still convert the equivalent of US$50,000 into foreign currency annually – and they likely will as the [renminbi] declines further.
“Over the year, our base case is for the [renminbi] to decline against the US dollar by a mid- to high-single-digit percentage,” the company said.
Pimco said the Chinese government was, however, also more likely to let the renminbi float freely or “at least widen its trading band”.
“In recent months, the People’s Bank of China has shifted its policy focus from promoting growth to reining in the highly leveraged financial sector,” the company added.
“As a result, overall liquidity is likely to remain tight and local interest rates are likely to remain elevated at least through early this year.”
The company cautioned that higher rates will dampen GDP growth from the current 6.7 per cent to 6–6.5 per cent in 2017.
“Amid the disruption in China’s bond market and ongoing capital outflows, the implication for investors is straightforward, in our view,” Pimco said.
“As the [US Federal Reserve] raises US interest rates in 2017 – we anticipate two to three increases – and the Chinese [renminbi] continues to decline, we still favour long positions in the US dollar versus the [renminbi] and other emerging Asia currencies.”