The People’s Bank of China (PBoC) aims for a gradual appreciation of the yuan to encourage the currency’s internationalisation. However, it also seeks to maintain the competitiveness of Chinese exports, with the yuan stabilising between 7.10 and 7.15 against the dollar since late August.
The yuan previously appreciated from 7.35 in April due to various factors, including a US-China tariff truce and a stock market rally that led to capital inflows. The Shanghai-Shenzhen CSI300 Index has increased by 30% since April, while China’s trade surplus over the first ten months this year reached USD965 billion, a 22% rise from last year.
Potential Challenges Remain
Despite current support for the yuan, potential challenges remain. Capital flows into China’s financial markets might diminish if economic fundamentals falter, and there are indications of weakening export momentum. PMI new export orders have softened, alongside decelerating growth in exports to non-US markets throughout October.
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We see the Chinese yuan continuing its path of mild appreciation against the US dollar in the coming weeks. The People’s Bank of China appears to favor a stronger currency to boost its international status, but will prevent any rapid moves to protect export competitiveness. This view is reinforced by broad market expectations that the US Federal Reserve will begin cutting interest rates in the first half of 2026, which is already putting pressure on the dollar.
The yuan’s strength is supported by significant capital inflows into China’s stock market, which has rallied sharply since the tariff-related lows back in April 2025. Recent data shows that net foreign inflows into Chinese A-shares via the Stock Connect program hit a six-month high in October, while the CSI300 Index holds firm above 4,200. Furthermore, China’s trade surplus reached a staggering $965 billion in the first ten months of this year, a figure that already surpasses the full-year total of $823 billion recorded in 2023.
Strategies and Risks
Given this backdrop of slow, managed appreciation, derivative traders should consider strategies that profit from a gradual decline in the USD/CNY exchange rate. Selling out-of-the-money call options on USD/CNY is an attractive way to collect premium, as the PBoC’s daily fixings consistently below 7.10 suggest a cap on dollar strength. The managed nature of the currency suggests that realized volatility will likely remain suppressed, favoring option-selling strategies over outright purchases.
However, we must watch for headwinds that could reverse this trend. The latest Caixin Manufacturing PMI for October dipped to 49.8, with the new export orders sub-index falling further to 48.5, indicating a contraction in foreign demand is beginning to bite. Any sign that capital inflows are reversing or that corporate profitability is faltering could quickly undermine the yuan.
Therefore, while our primary strategy is to position for yuan strength, it is prudent to hedge against a potential reversal. Buying cheap, far out-of-the-money USD/CNY call options could provide protection if slowing export momentum or a shift in investor sentiment causes an unexpected spike in the currency pair. This offers a low-cost way to manage the risk of a sudden policy shift or a deterioration in China’s economic data.
