China is revaluing its currency, sort of. China did pledge over the weekend to allow a greater degree of flexibility in exchange rates. This is the second move to de-peg against the U.S. Dollar but it is not a free-float of their exchange rates. The good news is that there is an ETF for this via the WisdomTree Dreyfus Chinese Yuan (NYSE: CYB).
There are also caveats.
China’s move to allow more flexible exchange rates is not a move to a free-float like the Dollar-Euro or Dollar-Yen. The spot rate was roughly 6.801 today versus 6.827 on Friday, and the band that had been kept of late had been 6.83 Yuan per Dollar.
China also noted that an appreciation in the Yuan alone would not rebalance world growth. It even went as far as to say that more global fundamental reforms are needed.
The WisdomTree Dreyfus Chinese Yuan (CYB) is meant to track the currency moves with short-term rates in China, so this is not a move for the Chinese stock market. The investment policy seeks to track the total returns of both the money market rates in China that are available to foreign investors AND to track the changes in value of the Chinese Yuan against the U.S. dollar.
It probably doesn’t sound all that complicated, but there is one issue to consider here when the market gets volatile. The fund normally invests in a combination of U.S. money market securities along with forward currency contracts and currency swaps. The ending result, hopefully, a money market security denominated in Chinese Yuan. The average portfolio maturity is 90 days or less, and no securities go beyond a year.
WisdomTree notes the assets under management here as being $723.3 million, although if the exchange rates and the global short-term money market rates rise around the globe you could see real changes in the trading of this instrument.
Here is where the ETF will get tricky. Pretend that you are in the middle of the trading session and it comes out that China has decided to back off or stay out of U.S. Treasry bond auctions that the U.S. has come to depend upon, and pretend that it was at a time when volatility (fear) is elevated. In this scenario you would expect a rise in rates and a rise in the value of the Yuan. Without knowing exactly what the swaps and contracts are inside this, how can you track the real implied value of the product during the day?
In short, there is a risk for tracking error. The good news is that it would probably take an outlier event or a black swan event for the tracking error to ever amount to much. The implied duration from WisdomTree is only 0.16, implying that a 100 basis point rise would only knock off about 0.16% of the value.
This fund is one that could almost be limitless in size, and if short-term rates ever get above this zero floor we have in place then the fund might attract more and more investors.
Again, this is the currency and money market trade. If you want the liquid Chinese equity investment ETF, that is iShares FTSE/Xinhua China 25 Index (NYSE: FXI). It seeks investment results meant to track the price and yield performance, of the FTSE/Xinhua China 25 index.
To show the difference of how these two reacted today, the CYB is up only 0.76% and the FXI is up over 4.5%.
