The Hong Kong Monetary Authority bought the local currency for the first time since the current trading band was imposed in 2005, after the exchange rate sank to the weak end of its permitted range.
The de facto central bank purchased a total of HK$3.258 billion ($415 million), including HK$816 million it bought earlier Thursday, according to the HKMA’s page on Bloomberg. The Hong Kong dollar dropped to HK$7.85 earlier in the day, at the edge of its HK$7.75-7.85 range against the greenback, and has traded close to or at that level since.
Hong Kong dollar funding costs climb across the curve Friday, after the monetary authority’s currency transaction. The three-month interbank rate of the currency, known as Hibor, surged by the most since Nov. 29.
See here for more on the Hong Kong dollar’s slide.
With record foreign-exchange reserves, the HKMA is in a strong position to defend its city’s currency, and there’s no evidence that the trading band is under sustained speculative attack. The authority’s deputy chief executive Howard Lee said Friday morning that the banking system has ample liquidity and can cope with capital outflows, which are within expectation. He said interest rates are likely to rise incrementally and gradually.
The intervention is still significant because the HKMA’s purchases have the potential to boost borrowing costs by draining liquidity. That would signal the end of an era of ultra-cheap money that made Hong Kong the world’s least affordable market for housing and propelled equities to all-time highs.
“We will see more HKMA intervention in the coming days, because the market’s expectations on the Hong Kong dollar are still quite bearish due to the ample liquidity,” said Zhou Hao, an economist at Commerzbank AG in Singapore. “The intervention won’t likely drive a significant rally in the exchange rate, as the demand for the currency remains weak.”
The Hong Kong dollar has been on a downtrend over the past year as liquidity prevented local rates from catching up with U.S. levels, prompting traders to borrow the currency to buy the greenback. It traded at HK$7.8499 per greenback as of 12:12 p.m. in Hong Kong Friday.
The HKMA will defend the peg by buying the local dollar against the U.S. currency, Norman Chan, Chief Executive of the HKMA, said in a statement Thursday. Such operations are “normal” and more may come depending on capital flows, he said.
“The HKMA is fully capable of maintaining the stability of the Hong Kong dollar and managing large scale capital flows,” he said. “There is no need to be concerned.”
The city’s aggregate balance of interbank liquidity — which will shrink as the currency operations continue — last stood at about HK$180 billion. It will drop to about HK$176.5 billion on April 16, according to the HKMA’s page.
Ryan Lam, head of research at Shanghai Commercial Bank, said that rates in the city won’t meaningfully increase until the balance falls below HK$50 billion.
“Hong Kong will remain flooded with liquidity,” said Peter Rosenstreich, head of market strategy at Swissquote Bank SA. “There are large capital inflows and the demand for the local dollar is weak due to tightening mortgage policy.”
The last time the HKMA bought Hong Kong dollars was in 2005, shortly before the new band was implemented to curb funds flowing into the Asian financial hub to bet on a stronger Chinese yuan. But inflows continued after the financial crisis, encouraged by the currency peg and steady Chinese and local economic growth. This kept liquidity flush even as the U.S. began tightening monetary policy in 2015, causing Hong Kong’s rate discount to widen sharply.
The move to the weak end of the band has been well anticipated and came without the fireworks associated with speculative attacks on pegged currencies. Trading volume in options remains within normal ranges, and even by Hong Kong dollar standards the currency’s daily moves have been tiny. The Hang Seng Index of stocks rose 0.4 percent Friday.
“We believe the HKMA is well positioned to maintain the peg, aided by a record amount of FX reserves, strong fiscal surplus and comfortable current account surplus,” strategists led by Heng Koon How at United Overseas Bank Ltd. wrote in a note. “As long as the HKMA is able to guide local rates higher in a gradual and controlled manner, there will be minimum disruption to local asset markets.”
The UOB analysts said that the HKMA may issue more Exchange Fund Bills as a way to soak up liquidity on a temporary basis. The authority did that in August and September, announcing EFB sales totaling HK$80 billion. Still, chief executive Chan said in a blog post last month that the HKMA had no immediate plan for extra sales.