By Win Thin

There's a newswire report quoting the chief policymaker of the People's Bank of China as saying the yuan could be allowed to depreciate "if it becomes necessary to support exports."

Zhou Xiaochuan, the chairman of the central bank's Monetary Policy Committee, noted that now that there is greater two-way movement, businesses need to learn to conduct business under a different exchange rate regime.

Zhou reiterated that the yuan cannot be allowed to rise too fast, as exporters would be unable to cope with it.

Clearly, we are not going back to the days of 2007 and 2008, when significant yuan (CNY) appreciation was allowed. Given these comments, as well as recent concerns about China's economic growth, 12-month non-deliverable forwards (NDFs) are now pricing in only 1.1% appreciation and are at their lowest loevel since early June, before the depegging of the yuan.

As we have noted in the past, CNY flexibility means different things to the U.S. and China. The U.S. sees it as allowing a one-way appreciation trend to resume, while China sees it as more two-way movement. Although the Obama administration took a step back from confrontation by not labeling China a currency manipulator this month, Congress is unlikely to back off in an election year.

As we noted yesterday, there are a lot of things that worry us right now, but China isn't even in the top three. We think that the current selloff in the CNY NDFs will offer investors a chance to establish long-CNY positions. 12-month forwards appear too cheap, and we believe market is underestimating appreciation potential.

Even if GDP growth moderates to a more sustainable 10% in China, we don't think that will prevent modest appreciation of 3%-5% over the next 12 months.
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