The Hong Kong-based Chinese Gold & Silver Exchange Society (CGSE) has launched the worlds first offshore renminbi-denominated spot gold contract, offering investors a chance to speculate on the appreciation of the mainland currency while hedging in gold.
The product has been on trial since May 16 and CGSE president Haywood Cheung tells Euromoney there will be an initial ceiling on trading volumes.
There is an initial cap of 300 kilos per day for physical gold trading, because we want to see a gradual development in the product and make sure no single investor can suck up all the liquidity, he says. But electronic trading is limitless.
Liquidity will be important for the new gold trading programme, since the lack of it has blighted the development of the renminbi bond market in Hong Kong. Limited supply of bonds relative to the volume of renminbi deposits in Hong Kong, estimated by Cheung at around Rmb600 billion, means that investors tend to buy and hold.
That means there is little secondary trading.
This situation is exacerbated by the Peoples Bank of Chinas habit of occasionally announcing that the offshore renminbi settlement quota has been filled, causing a temporary liquidity squeeze. This happened most recently this month, causing a sell-off in CNH bonds (renminbi-denominated bonds held in Hong Kong) and a discount in the price of those bonds relative to their onshore equivalents. Investors in any renminbi-denominated product in Hong Kong are likely to be extremely wary of being left holding illiquid instruments.
These contracts should be easy to liquidate, because physical gold always trades with a two-way price, unlike other markets where you always have to line up a buyer, says Cheung. Well always quote a price.
Cheung draws an interesting historical parallel with the late 1980s and early 1990s, when both local and foreign goldsmiths traded contracts in Hong Kong as a means of hedging the Hong Kong dollar against the US dollar, as Sino-British negotiations over the territorys future caused uncertainty about the former currencys future.
Now we are seeing some of these old gold players come back, to hedge against the renminbi, he says. After the launch on October 17, we had a lot of foreign banks and goldsmiths calling.
Gold and the renminbi are at the forefront of investors minds, and renminbi kilobar gold is being marketed accordingly as a combination of two hot commodities. CGSE is hoping that the contracts will attract investors looking to bet on the appreciation of the renminbi and who want to diversify away from CNH bonds, with Cheung saying he expects a 30% increase in trading volumes on the exchange within six months.
But that will depend on whether investors continue to be spooked by the early October sell-down in onshore renminbi products, leading to a discount between the offshore and onshore bond markets of 1.5% as of October 3.