Australian Dollar Hit by ‘Fierce’ Sell-Off in Chinese Renminbi

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- AUD hit by fierce sell-off in Chinese currency amid trade tensions.

- PBOC fixing takes USD/CNY across 7 level, threatens the AUD.

- Analysts watching closely for signs China "weaponising" currency.

- But technical analyst eyes support for AUD/USD near market level.

The Australian Dollar fell into the new week Monday as commodity currencies and so-called risk assets sold off in tandem with China's Renmimbi, which broke below a psychologically important level in response to the latest 'fixing' from the People's Bank of China (PBOC)

The PBOC set its USD/CNY 'fixing' rate at 6.9220 Monday when the market had been looking for the bank to set the exchange rate below 6.90 in an effort to shore up investor confidence in the its ability to keep the currency stable. 

Chinese central bankers say Monday's fixing was dicated by a financial model that's simply recognising changes in economic fundamantals but it was seen by many analysts as an indication the PBOC intends to allow the Renmimbi to weaken in response to President Donald Trump's latest tariffs.

"The PBOC fixed at 6.9220 suggesting the PBOC is letting the CNY go and we’ve now seen that in the CNY falling to the lowest level against its basket since 2014 and $/CNY breaking through 7," says Chris Turner, head of FX strategy at ING Group. "This is all bearish for risk assets and cyclical currencies. Expect the safe havens of JPY and CHF to remain in demand (especially with very limited room for FX intervention), while commodity FX and EMFX in general should stay under pressure."

Above: AUD/USD rate shown at hourly intervals, alongside USD/CNY rate (orange line, left axis).

"From the Chinese side, the PBOC’s willingness to let the renminbi slide suggests that they also do not have much hope, or intent, that both parties can reconcile their differences any time soon. That promises for a clear risk-off mood in markets, with emerging markets, as well as Australia and New Zealand being the most likely victims. Safe havens like CHF and JPY are already seeing inflows," says Michael Every, a strategist at Rabobank.

Monday's decision prompted significant selling of the currency because the Renmimbi might need to fall a lot further if PBOC officials intend to use the exchange rate to eliminate the 10% tariff announced by the White House last week, which will hit China's remaining $300 bn of annual goods exports to the U.S. from September 01. 

Those tariffs will make Chinese goods more expensive for America companies and consumers to buy, although their impact can be somewhat neutralised if the PBOC devalues the currency, because that would make Chinese goods cheaper for all foreign companies and consumers to buy. China did say it would respond to the tariffs.

Seperately, Bloomberg News reported Monday that the Chinese government has asked state-owned-companies to stop buying American agricultural products after the U.S. imposed additional tariffs on Chinese exports to the U.S. last week as part of an effort to heap further pressure on the country's leaders in bilateral trade talks. 

"The retaliation by China to push for a weaker Chinese yuan undoubtedly heralds a new chapter in the trade conflict. This may lead to additional tariffs and a collapse of negotiations," says Marc-Andre Fongern, a currnecy strategist at MAF Global Forex. 

Monday's fixing is bad news for the Australian Dollar because the Antipodean unit is substantially underwritten by a large commodity trade flow with China, which has seen it develop a high correlation with both commodity prices as well as the Renmimbi, which was down more than 1.5% during morning trading. 

Above: : AUD/USD rate shown at daily intervals, alongside USD/CNY rate (orange line, left axis).

"AUD/USD remains under pressure following the break below the mid June low at .6832. It targets the .6738 January 2019 low and .6720, the 2016-2019 support line (connects the lows). This is decent support and we look for this to hold the downside," says Karen Jones at Commerzbank.

The retreat across the 7 threshold for the USD/CNY rate comes hard on the heels of fresh U.S. tariffs and criticism of Chinese trade policy by President Donald Trump. The U.S. leader said last week that China has failed to deliver on a series of promises allegedly made to him including one to buy more U.S. agricultural products and another to prevent the sale of Fentanyl, a synthetic opiate popular with some drug users, to American companies and individuals.

It also followed a July interest rate decision and guidance from the Federal Reserve (Fed) that suggested U.S. interest rates are are unlikely to fall as far as markets had been hoping they would later in the year. The Fed cut its interest rate by 25 basis points to 2.25% but said further cuts would be contingent on future developments in the economy, when investors were looking for the Fed to suggest that further reductions in borrowing costs could be expected promptly. 

"AUD is getting hammered and our long hasn't survived," says Kit Juckes, chief FX strategist at Societe Generale. "Authorities defended USD/CNY 7 in 2016, 2018 and earlier this year but the mood has changed with the latest announcement from President Trump that he intends to impose a 10% tariff on the USD 300bn in imports from China that have not been covered by earlier actions."

Above: : GBP/AUD rate shown at daily intervals, alongside USD/CNY rate (orange line, left axis).

Both sets of developments came as a blow to the Australian Dollar, which has also been troubled by a strong U.S. Dollar in the last year or more as Australian bond yields have slowly but surely become less attractive to international investors as the Reserve Bank of Australia (RBA) has now cut its interest rate twice in 2019, more than offsetting the positive effect the Fed's one cut could have had on the attractiveness of the currency. 

Changes in rates are normally only made in response to movements in inflation, which is sensitive to growth, but impact currencies because of the push and pull influence they have over capital flows. Those flows tend to move in the direction of the most advantageous or improving returns, with a threat of lower rates normally seeing investors driven out of and deterred away from a currency. 

"Many investors had assumed that the Chinese authorities would not resort to using the currency as part of its retaliation against hiked US tariffs, and that they would maintain an exchange rate of less than 7 yuan to the dollar. But with the psychologically important level now broken, in spite of China’s vows to aim for stability, this assumption no longer holds," says Jeroen Blokland, a porfolio adviser at Robeco. "It seems reasonable to expect things to get worse before they get better."  

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