Eye on China FX Reserve Data; More Outflows Expected - Analysis

Chinese foreign exchange reserve data for January, expected to be released Feb. 7, will likely show another sizable drop in FX reserves, analysts said.

Another sharp decline in reserves will do little to calm global investors who remain concerned that China is burning through its reserves at a rapid pace.

As a reminder, FX reserves stood at $3.33 trillion as per December 31, 2015, a far cry from the $3.993 trillion seen at the end of June 2014.

PBOC figures, released last month, showed that FX reserves dropped by a monthly record in December of $107.9 billion and by $513 billion for the whole of 2015.

The central bank has been using its huge reserve coffers for intervention in the foreign exchange market to defend the yuan's value since the effective devaluation on August 11 last year.

While the PBOC was seen as trying to reduce its FX footprint in 2016, there were some wild yuan swings earlier in January.

This is partly why market players still expect the reserve data to show another big decline, pressured also by strong demand from Chinese individuals for overseas travel during the week-long Chinese New Year holiday, which begins February 7 also.

In gauging the likely drop in China's FX reserves, Mansoor Mohi-Uddin, senior market strategist at RBS, noted that in January, the dollar index (DXY) "was largely flat on the month signaling the estimated 30% of the central bank's FX reserves held in non-dollar currencies is unlikely to have been affected much by valuation changes."

"If China's trade surplus and inward FDI remains the same as December's, at $72 billion, then in the absence of capital outflows, FX reserves should rise by the same amount," he observed.

"Instead, FX reserves are likely to fall again by around $100 billion, signaling that capital account outflows remain high around $170 billion," Mohi-Uddin said.

Nomura saw a similar result as likely.

"After falling by $108 billion in December, our FX strategists believe headline FX reserves fell by $96 billion to $3.2 trillion in January, although after adjusting for FX and coupon effects, we estimate a slightly larger fall of around $100 billion," Nomura strategists said in a note.

The dollar slide seen in the past 24 hours may offer the PBOC a welcome sigh of relief.

"China's central bank has just gotten lucky," said Credit Suisse analysts Ray Farris and Trang Thuy Le.

"The overnight sell-off in the USD has allowed the PBOC to simultaneously allow the CNY to fall below 100 vs its basket, while setting the USDCNY fix lower," they said.

On the PBOC's release of FX reserve data, Credit Suisse also looked for "another large loss of FX reserves in January, probably above $100 billion."

Looking ahead however, if the broader dollar tone remains soft and USDCNY can "drift a bit lower," then capital outflows would likely moderate in coming months, Farris and Le said.

In this case then, "FX reserve losses should moderate," they said.

For additional information about the on and off-shore yuan see MNI Main Wire at 12:06 p.m. ET.

On Thursday, the State Administration of Foreign Exchange said the country's foreign exchange reserves fell by $342.9 billion in 2015, a figure far smaller than the $513 billion drop announced by the PBOC last month.

The SAFE didn't give an explanation for the difference in the two numbers, but it is known that the PBOC data takes account of changes in valuations and exchange rate movements.

The SAFE's number shows how much the PBOC used last year to provide U.S. dollar liquidity to the market as well as some transfers such as loans to policy banks and injections to other government vehicles such as the Silk Road Fund. See MNI Main Wire story at 4:24 a.m. ET.

Also, SAFE noted that China's capital outflows in 2015 were largely a result of Chinese corporate business activity rather than capital flight by foreign firm

"Capital outflows we saw in 2015 were mainly because domestic banks and companies increased their exposure to foreign currency assets and paid down their foreign debt. This is different from traditional capital flight by foreign companies," said SAFE in a Q&A statement reviewing 2015 external payment.

SAFE said non-government holdings of foreign assets by domestic entities increased by $272.7 billion during the first three quarters last year while their foreign debt fell by $32.1 billion. See MNI Main Wire Story at 4:52 a.m. ET

Bob Sinche, global strategist at Amherst Pierpont Securities, planned to also keep an eye out for Hong Kong reserve data for January, due out Friday.

The January data, "will show whether, in stark contrast to China, reserves continued to increase as in 2H2015," he said.

"It appears some of the capital flow out of China is moving into Hong Kong, helping to explain the rise in reserves despite mark-to-market declines in non-USD assets," Sinche said.