Harnessing the RMB opportunity

Transcription

1 Deutsche Bank Harnessing the RMB opportunity A brief guide to China s global currency A brief guide to China s global currency 1

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3 Contents 1. The road ahead for RMB internationalisation 3 2. Why adopt the RMB? Foreign exchange and rates Transaction banking The offshore RMB fixed income market FAQ for corporations Keeping informed 32 A brief guide to China s global currency 1

4 2 A brief guide to China s global currency

5 The road ahead for RMB internationalisation Rapid growth in the global use of the renminbi will continue for years to come, and is testament to China s stature as a prominent economy and trading power. Renminbi (RMB) internationalisation is occurring within the context of China s managed transition towards a more market-driven economy, which necessitates greater mobility and market-based pricing of capital. Since 2009, the Chinese authorities have accelerated the process of financial reform through currency internationalisation, capital account opening and the gradual liberalisation of domestic interest rates. Although there continues to be debate about the ideal sequence and timing of reforms, Chinese policymakers have taken significant steps to allow more flexibility in all three areas. The process of interest rate liberalisation has led to the removal of nearly all restrictions on lending rates, and increasing latitude for banks to set deposit rates in relation to the People s Bank of China (PBoC) benchmark. Significant steps have also been taken to allow more flexibility in the exchange rate. In 2014, the daily trading range against the US dollar (USD) was doubled from 1% to 2% and banks onshore were permitted to set their own RMB/USD FX rates for retail clients. The RMB is now fully convertible on the current account, but also across an increasing number of items on the capital account. Deutsche Bank s research department has projected that China will complete the process of interest rate liberalisation by the end of 2016 and make the RMB fully convertible by The internationalisation of the RMB has outpaced other areas of financial reform, entering an accelerated phase in 2014, as new clearing banks were appointed in financial centres across Asia, Europe, and in Canada. In early 2015, the Chinese government and PBoC have stated that China is working towards full RMB convertibility under the capital account, suggesting that the process of reform will continue to see positive momentum. However, RMB internationalisation has also entered a phase when steady FX appreciation can no longer be taken for granted. Indeed, the value of the currency against the US dollar weakened in 2014, reversing a multi-year trend of appreciation. As the RMB trades with greater two-way movement, its offshore use is becoming less influenced by currency speculation and more so by genuine business demand. Redenomination of cross-border trade in RMB may bring efficiency improvements, reduced transaction costs and discounts in some cases. The recent relaxation of regulatory restrictions makes it easier for multinational companies to manage cash across borders and move funds from their China operations across borders relatively freely. Currency risk can be neutralised by raising capital in the offshore RMB bond market to fund onshore subsidiaries. Investors meanwhile gain unrestricted access to RMB assets through international FX and debt markets, and can now invest in onshore equities through the pilot Stock Connect programme in Hong Kong. A brief guide to China s global currency 3

6 Key Milestones in RMB internationalisation Banks allowed to take RMB deposits and to conduct conversion for individuals capped at RMB 20,000 per day in Hong Kong Banks started to earn 86.5bps deposit rate from Shenzhen branch of PBoC, after clearing charge from the clearing bank Bank of China (Hong Kong) Retail customers received RMB deposit rates in the 40-70bps range CNH refers to the Chinese RMB circulating in offshore markets, including but not limited to Hong Kong In July 2010, the PBoC made significant relaxations to the rules for the RMB business in Hong Kong, allowing RMB to circulate more or less freely in Hong Kong and permitting CNH financial products Current account items include merchandise trades, service trades and other current account items Corporates allowed to issue RMB bonds in Hong Kong Attractive yield ( %) for both retail customers and deposit-taking banks Sharp increase in RMB deposit base in early 2008, driven by the anticipation of CNY appreciation (12% appreciation priced into 12-month NDF) July 2009 RMB Cross-Border Trade Settlement Scheme launched The RMB cross-border trade settlement scheme was launched. Initially under the pilot programme, a total of 365 Mainland Designated Enterprises (MDEs) were permitted to settle merchandise exports in RMB. Retail investors allowed to transfer RMB deposits to other bank accounts and corporates allowed to establish RMB accounts in Hong Kong Creation of CNH FX and rates inter-bank markets RMB supply rose due to spot CNY-CNH arbitrage from exporters, and sharp increase in Hong Kong- China cross-border settlement amounts Increased issuances of RMB bonds and CDs RQFII quota increased from RMB 20bn to RMB 270bn MNCs allowed to make RMB cross border loans Current account items: development of RMB cross-border trade settlement schemes from 2009 to 2012 Until Aug 2011 Expanded Scheme The RMB cross-border settlement programme was expanded a few times and by Aug 2011, it was expanded nationwide and to all countries/regions abroad, RMB trade settlement applied to merchandise and services imports and services exports; for merchandise exports, only MDEs were eligible and the list of MDEs had yet to be expanded. Mar 2012 Full relaxation Following the announcement of the Notice of improving the administration of MDEs in RMB cross border trade settlement, the RMB cross border trade settlement scheme became applicable for all transactions under the current account by all eligible enterprises, both exporters and importers. 4 A brief guide to China s global currency

7 Expanding offshore RMB business: Feb 2013: RMB business in Taiwan was officially launched with RMB deposits April 2013: PBoC signed RMB Clearing Agreement with ICBC Singapore; PBoC signed an MOU with MAS on cooperation on RMB business in Singapore Enhancing offshore RMB liquidity facility: July 2013: The operations of the RMB liquidity facility was enhanced to provide overnight and one-day funds by the Hong Kong Monetary Authority (HKMA) Relaxing capital account access: Mar 2013: Expanded RQFII programme to financial institutions May 2013: PBoC allowed RQFII investors to access China s interbank bond market July 2013: Simplified RMB cross-border settlement; onshore financial institutions allowed to make RMB cross-border loans; borrowing limit by onshore MCBs from offshore participating banks increased from 1% to 3%; tenor for such borrowing extended from 3M to 1Y; free RMB flows between onshore MCB accounts and offshore RMB accounts allowed Oct 2013: Use of RMB allowed to settle foreign investment in domestic financial institutions Mar 2013: Expand RQFII programme to financial institutions in Hong Kong; removal of asset allocation requirements July 2013: QFII quota increased to USD 150bn from USD 80bn; RQFII programme is launched in Singapore and London Oct 2013: London is granted RMB 80bn RQFII quota; Singapore is granted RMB 50bn RQFII quota Developing Shanghai FTZ: Sept 2013: Shanghai Free Trade Zone (SHFTZ) established to test economic and financial reforms within a pilot area RMB Cross-border flows Feb 2014: PBoC issued Notice to support the expansion of RMB cross-border usage in SHFTZ Mar 2014: PBoC liberalised FX deposit rate in SHFTZ May 2014: MNC cross-border FX cash pooling May 2014: PBoC announced detailed implementation rules on SHFTZ account management and prudential management rules Jun 2014: Shanghai liberalised FX deposit rates Nov 2014: RMB two-way cross-border cash sweeping programme was expanded nationwide (from SHFTZ) Relaxing capital account access Expansion of RQFII programme Mar 2014: Paris received RMB 80bn RQFII quota Jul 2014: South Korea received RMB 80bn RQFII quota, Frankfurt received RMB 80bn RQFII quota Nov 2014: Doha received RMB 30bn RQFII quota, Canada received RMB 50bn RQFII quota, Australia received RMB 50bn RQFII quota Launch of HK-Shanghai Stock Connect programme Apr 2014: HK-Shanghai Stock Connect programme announced Nov 2014: HK-Shanghai Stock Connect programme launched Launch of RMB QDII program Nov 2014: RMB QDII programme launched; PBoC does not impose QDII quota Expanding offshore RMB business Mar 2014: PBoC signed MOU with Deutsche Bundesbank on RMB clearing arrangement Apr 2014: PBoC signed MOU with Bank of England on RMB clearing arrangement Jun 2014: PBoC appointed Bank of China Frankfurt Branch as the RMB clearing bank in Frankfurt and China Construction Bank London branch as the RMB clearing bank in London; PBoC signed MOU with Banque de France on RMB clearing arrangement and Banque centrale du Luxembourg on RMB clearing arrangement Jul 2014: PBoC appointed Bank of Communication Seoul as the RMB clearing bank in Seoul and signed MOU with Bank of Korea on RMB clearing arrangement Sep 2014: PBoC appointed ICBC Luxembourg as the RMB Clearing Bank in Luxembourg, appointed Bank of China Paris as the RMB Clearing Bank in Paris Nov 2014: PBoC appointed Bank of China Doha as the RMB Clearing Bank in Qatar, and appointed ICBC Canada as the RMB Clearing Bank in Toronto; signed MOU with Bank Negara Malaysia on RMB clearing arrangement; and appointed Bank of China Sydney as the RMB Clearing Bank in Sydney Dec 2014: PBoC signed MOU with Bank of Thailand on RMB Clearing arrangement Expanding offshore RMB business: Jan 2015: PBoC signed MOU with Swiss National Bank on RMB clearing arrangement in Switzerland Relaxing capital account access: Jan 2015: Switzerland received RMB 50bn RQFII quota A brief guide to China s global currency 5

8 Evolution of the offshore market While previously official RMB clearing banks existed only in Greater China and Singapore, from 2014 onwards there has been a rapid expansion of offshore clearing centres with ten new jurisdictions announced: London, Frankfurt, Paris, Luxembourg, Seoul, Qatar, Toronto, Sydney, Kuala Lumpur, Bangkok and Zurich. China s approach has been to establish a global network of offshore RMB clearing banks, currency swap agreements, RMB Qualified Foreign Institutional Investor (RQFII) quota, along with an associated systems and regulatory framework. The RMB has also begun direct currency trading against the euro, the British pound, the Singapore dollar, the Korean won and the New Zealand dollar. The RMB already had direct currency trade with the US dollar, the Japanese yen, the Australian dollar, Russia s rouble and the Malaysian ringgit. Global RMB deposits Total deposits in the offshore RMB market stood at an estimated RMB 2.2tn by the end of January 2015, up 35% from RMB 1.63tn a year earlier. About 57% of global deposits were held in Hong Kong (where the RMB retail conversion limit was removed in November 2014) compared to 67.5% in 2013 and 82% in In 2014, RMB deposit growth was particularly strong in Taiwan (up 40%), Macau (42%), Singapore (32%), and various European centres. In the span of just one year, South Korea has emerged as a major jurisdiction in the offshore RMB landscape, having quickly amassed the fourth-largest RMB pool in the offshore market, with the RMB now accounting for more than a quarter of foreign currency deposits, from just 0.4% at the end of A slowdown in the pace of offshore RMB deposit growth observed from late-2014 and early 2015 can be attributed to broad US dollar strength and increasing volatility in the CNH spot and forward markets. Despite diminished expectations for RMB appreciation vs. USD, Deutsche Bank expects the offshore deposit base to continue expanding due to RMB investment and diversification demand from corporates, institutions, and foreign central banks. Figure 1. Global RMB Deposit Balances RMB bn RMB cross-border trade settlement Since the first pilot scheme to allow crossborder RMB trade settlement was established in 2009 and expanded to include all Chinese provinces and global counterparties in 2011, the redenomination of cross-border trade to RMB has grown swiftly. The currency s share of trade settlement volumes has received a further boost from the relaxation in management and regulatory oversight of cross-border flows. In 2014, RMB cross-border settlement flows amounted to RMB 6.56tn, up 42% from At the end of 2014, 21.6% of China s crossborder trade was denominated in RMB, compared to only 2.5% in Deutsche Bank expects 25% of China s global trade volume to be denominated in RMB by the end of By comparison, 30-40% of Japan s external trade is settled in yen, while 50-60% of the Eurozone s external trade is settled in euro. Since October 2013, the renminbi has been the second-most used currency in trade finance, based on SWIFT data. Figure 2. RMB is the second-most used currency globally in trade finance (letters of credit and collection, inbound and outbound traffic) based on value % Jan 15 Jan 13 Q Hong Kong Taiwan Singapore Macao London New York Korea Luxembourg Paris Source: Deutsche Bank, various central bank websites USD RMB EUR JPY Source: Deutsche Bank, SWIFT 6 A brief guide to China s global currency

9 Figure 3. Top five users of RMB in trade finance Source: Deutsche Bank, SWIFT Macau 0.9% Taiwan 0.9% Others 4.1% Singapore 9.7% China 63.5% Hong Kong 21.0% SWIFT data also points to continued expansion in the use of RMB as a global payments currency. In 2014, RMB payments grew in value by 102% compared to an overall yearly growth for all currencies of 4.4%.The expansion in offshore RMB clearing centres will be an important driver to fuel future growth in RMB payments. The offshore RMB fixed income market Issuance of so-called dim sum products reached a record high in 2014 with RMB 560bn in gross supply, a 46% increase from The total outstanding RMB fixed income market increased in size by 31% year-over-year to reach RMB 760bn at end-2014 (during the year, the offshore RMB bond market grew 40% to RMB 500bn, while the certificates of deposit (CDs) market grew 7%). Much of this growth was driven by a large wave of refinancing, as well as low swap rates between the RMB and the US dollar, which increased the appeal of dim sum debt on an asset-swapped basis. Regionally, in Taiwan, RMB Formosa bond issuance rose 96%, bringing the total RMB Formosa bond market to RMB 31.4bn. In terms of issuers, supranationals and a number of foreign states became more active in the CNH bond market in 2014, with the British government issuing the first non-chinese central government bond. Despite its rapid development, the offshore RMB bond market must grow and diversify significantly more before it can rival China s onshore bond market in scale. Issuance in the offshore RMB fixed income market has been decelerating in early-2015, amid convergence in China s onshore and offshore rates and a strengthening dollar. Milestones in capital account liberalisation Chinese policymakers have continued relaxing capital account controls to allow more direct investment flows into and out of China. More than 30% of China s (inward) foreign direct investment by non-financial institutions is now made in RMB, while Deutsche Bank estimates that about 4.3% of China s total corporate outbound direct investment is RMBdenominated. Total inbound and outbound RMB direct investment settlement flows in 2014 amounted to RMB 1.05tn, up 96% from The most significant milestone of recent years in the liberalisation of portfolio investment flows was the launch of the Shanghai-Hong Kong Stock Connect in November This mutual market access scheme allows participants in the two cities to invest in each other s stock markets without the need for institutional quota, and is all the more significant considering that this mechanism will expand to cover the Shenzhen Stock Exchange and additional asset classes over time. Unsurprisingly, turnover was modest in the initial months, as the scheme launched before many global funds were able to satisfy operational and regulatory considerations. Deutsche Bank expects that the Stock Connect scheme will attract more volumes over time as more institutions become able to participate. In early-april, a surge in purchases of Hong Kong-listed equities by Chinese investors was recorded after the Chinese securities regulator authorised domestic mutual funds to use the scheme without the need for Qualified Domestic Institutional Investor (QDII) status. The possible inclusion of Chinese A shares in global benchmarks would serve as a catalyst to increase the global appetite for domestic Chinese equities, bringing higher inflows. Progress in capital account opening is also evident from the expansion of the RQFII programme to new offshore centres in Europe, North America, the Middle East, and Australia and the expansion of the total quota from RMB 400bn in 2013 to RMB 1tn as of March 2015; the expansion of interbank bond market access to foreign investors; the removal of the PBoC s quota control over the RMB QDII; the nationwide expansion of an RMB cross-border cash pooling programme; and the liberalisation of RMB crossborder financing in the Shanghai Free Trade Zone and three other newly established Free Trade Zones. A brief guide to China s global currency 7

10 These developments have broadened cross-border investment channels and enabled companies to access offshore financing, improve treasury efficiency and risk management. They also enhance the mechanism for cross-border circulation of the RMB, boosting the supply of offshore liquidity. What s next? Offshore RMB market forecasts Deutsche Bank expects the total pool of offshore RMB deposits to reach 30% to RMB 3.25tn by the end of 2015, fuelled by investment and currency diversification by companies, financial institutions, and foreign central banks. The volume of offshore RMB FX spot and forward trading is projected to rise to USD 14bn per day from USD 12.5bn in Deutsche Bank also expects the average daily turnover of CNH cross-currency swaps to reach USD 1bn by the end of 2015, while the market for CNH options is expected to record an average daily trading volume of USD 5.5-6bn, compared to USD 5bn in RMB-denominated trade settlement flows are expected to grow by 17% in 2015 to RMB 7tn, supported by the expansion of RMB business to new offshore centres and the liberalisation of cross-border flows. RMB-denominated trade settlement is projected to account for 25% of China s global trade by the end of 2015, up from 21.6% in Figure 4. RMB trade settlement to rise to 25% of China s global trade in Jan-Nov 2014 RMB trade settlement (RMB bn) Share of RMB trade settlement Source: Deutsche Bank 2015F Expansion of Free Trade Zones in China China continues to experiment with RMB internationalisation and capital account liberalisation within its free trade zones (FTZs). Reforms originating from the Shanghai FTZ (SHFTZ) have enabled companies to integrate 0 their onshore RMB cash with their regional and/or global cash pools. A pilot in early 2014 permitting two-way cross-border cash sweeping for qualified companies within the SHFTZ was expanded nationwide in November More recently, qualified firms in the SHFTZ have been allowed to borrow up to twice their capital base in foreign or domestic currency through overseas funding double the previous limit. In December 2014, the State Council announced the creation of three new FTZs in Guangdong, Fujian and Tianjin. The existence of four recently established FTZs in the country suggests that the pace of reform relating to cross-border investment, trade and financial market development should remain brisk. Additional offshore RMB centres The appointment of offshore RMB clearing banks is critical to facilitating cross-border settlement. Official clearing banks represent more direct access to the Chinese financial system, with second-order benefits for financial institutions and customers. They also serve to raise awareness among the local business and investor communities that the local financial system has the capacity to effect cross-border RMB transactions on their behalf. With RMB clearing banks now established in most financial centres in Asia, Europe, the Middle East and in Canada, Deutsche Bank expects more RMB clearing banks to be appointed in the Americas in 2015, most likely in South America. Expansion of two-way RMB investment schemes Further liberalisation of outward RMB flows will serve to both increase RMB supply to the offshore market and also neutralise the impact of RMB investment into China to improve equilibrium in the balance of payments. Deutsche Bank expects both corporate outbound direct investment flows and the RMB qualified domestic institutional investor (QDII) programme to grow at a faster pace than in The pace of quota approval under various RMB investment programmes will likely be similar to that in In 2014, RMB 142bn in RQFII quota and USD 15.5bn in QFII quota was granted, as well as approximately RMB 150bn in quota under the PBOC s interbank bond market direct access programme. The likely expansion of the Stock Connect programme suggests that demand for additional RQFII quota in Hong Kong will be modest. 8 A brief guide to China s global currency

11 Figure 5. RQFII Quota vs. Quota approved (RMB bn) Hong Kong Singapore London RFQII quota RFQII quota granted Paris Frankfurt South Korea Taiwan Qatar Canada Australia Luxembourg Switzerland Source: Deutsche Bank Special drawing rights status for the RMB? The International Monetary Fund (IMF) is conducting a comprehensive assessment of the RMB to decide whether the currency will be included in its special drawing rights (SDR) currency basket. The SDR, an international reserve asset, currently comprises the US dollar, euro, Japanese yen and British pound and represents a potential claim on the freely usable currencies of IMF members. The two necessary conditions to meet eligibility for inclusion are that a currency should be i) of the five IMF member countries with the largest exports of goods and services, and ii) freely usable. Deutsche Bank s Economics research team sees a 40% probability that the RMB will become an SDR currency in 2015 and a 70% probability that this will happen by the end of Inclusion in the SDR basket will increase the incentive for global central banks and foreign investors to accumulate RMB assets, leading to more products being priced in RMB. A brief guide to China s global currency 9

12 Why adopt the RMB? Doing business in RMB can have a range of benefits, including lower financing and transaction costs, reduced FX exposure, improved supplier access and greater purchasing power. Why an internationalised RMB matters to you Unrestricted offshore access to RMB trading, hedging and financing Lower transaction costs for foreign companies operating in or buying from China Greater investment choice and yield opportunities for offshore RMB deposits Broader access to onshore buyers and suppliers Reduced FX hedging costs for inward/outward investment Ability to hedge RMB exposure as its use in international trade increases A diversified and competitive source of financing Lays the path for eventual capital convertibility 10 A brief guide to China s global currency

13 Why trade CNH with Deutsche Bank? Deutsche Bank is an industry recognised world leader in all aspects of the foreign exchange business: The No.1 provider of liquidity to Asian FX markets: 21.8% market share in Asian FX trading (Euromoney Global FX Survey 2014) Transacted the first CNH cross-currency swap, FX swap and FX forward A leading market maker (broker estimates) The first bank to launch electronic trading of CNH (via Autobahn FX) A leading provider of structured CNH FX products One of the first banks to trade FX options onshore in China The first bank to provide live pricing for offshore RMB with local currency pairs across all onshore Asian locations We have a track record of providing award-winning solutions that enable clients success. TNo.1 FX Bank in Asia Euromoney 2014 Top ranked in Global FX Top ranked in Asian FX Greenwich Survey 2014 Most Innovative Bank for Foreign Exchange The Banker 2014 To harness opportunities presented by the internationalisation of the RMB, it is critical to partner with a bank that can help you navigate its challenges. Deutsche Bank for RMB solutions. A brief guide to China s global currency 11

14 Foreign exchange and rates The CNH market is evolving into a fairly sizable and liquid foreign exchange market, with a variety of instruments for FX management and hedging. Meanwhile, capital account liberalisations are increasing the scope for the cross-border movement of money. Liquidity in the offshore RMB FX market continues to build thanks both to growing levels of RMB cross-border trade and an offshore RMB bond market that has experienced high levels of growth and increased diversification. Currency exposures can be managed via CNH FX forwards, cross-currency swaps and FX options. After experiencing substantial growth in 2013, CNH FX option market trading volumes dropped significantly in 2014 in response to the weakening of the RMB against the dollar, the widening of the USD-CNY spot FX trading band and subsequently, the tightened regulation of the CNH structured forward market in some countries. Daily spot trading volumes in USD-CNH now stand at over USD 20bn, up from zero in July 2010, and have long surpassed the daily trading volumes of the non-deliverable forward market. Daily spot fixing in USD-CNH is provided by Hong Kong s Treasury Markets Association. What influences USD-CNH and why does it diverge with the onshore rate? As a fully deliverable offshore currency, CNH is exposed to supply and demand dynamics. Following the widening of the USD-CNY intraday trading band to +/-2%, the USD-CNH spot rate traded at a discount to the onshore CNY spot rate for most of 2014, driven by the strong USD trend and by investor expectations for the currency s depreciation. Figure 6. USD-CNH and USD-CNY spot rates and spread Jan-12 Jul-12 Jan-13 Jul-13 Jan-14 USD-CNY spot USD-CNH spot Source: Bloomberg Finance LP, Deutsche Bank pips Spot spread (RHS) Ultimately, the onshore CNY rate continues to serve as a soft anchor point for USD-CNH. While there are deviations from CNY, levels usually find their way back to an equilibrium as market participants move between the curves to find the most favourable rates. Over the longer term, demand for CNH will primarily be supported by rising levels of RMB trade and CNH asset creation, both of which have a clear growth trajectory. Changes in regulations (such as the change in net open positions, expansion in RMB swaps between PBo C and HKMA and the introduction of a liquidity facility) have also supported liquidity within the system and reduced volatility between the onshore and offshore CNY spot rates. Figure 7. Implied appreciation: NDF vs. CNH market -2.00% -2.50% -3.00% -3.50% -4.00% -4.50% 1M 3M 6M 9M 1Y CNY DF CNH DF NDF Source: Bloomberg Finance LP, Deutsche Bank Risk management products in USD-CNH The CNH FX market provides a range of familiar risk-management products, including FX forwards, FX options, interest-rate swaps, cross-currency swaps and bespoke structured risk-management products. While liquidity for some products is still low, like most aspects of the CNH market, growth is on an upward trajectory. For example, the FX forward market now sees daily volumes of USD 10bn equivalent per day and tenors from three months to one year. It has become a useful tool for corporations and investors alike to either manage FX risk or position for possible RMB appreciation. 12 A brief guide to China s global currency

15 By comparison, the USD-CNY NDF market currently has USD 2bn of daily volume. Over time, the NDF market will likely cease to exist as market participants move to where liquidity is best. Deutsche Bank estimates average daily turnover in the CNH FX options market grew substantially since 2011 from USD 30m to USD 7bn in 2013, with liquidity available in tenors from one month to a year. However, with activities in the CNH structured forward market moderating substantially, daily turnover in the CNH FX options market is around USD 5bn per day, as of March The CNH interest rate swap market is developing at a subdued pace relative to the CNH crosscurrency swap (CCS) market. A CNH HIBORbased interest rate swap market emerged after the introduction of CNH HIBOR fixing in the Hong Kong interbank market in June 2013; however, trading volumes remain low. The most active offshore RMB interest rate derivative market is the CNH cross-currency swap (CCS) market, which has seen substantial growth since the start of 2013: Market liquidity has improved significantly. In particular, daily turnover in the two-year and longer tenors has more than doubled from levels in January 2013, to around 700m as of March 2015; while the most liquid segment remains the three-year or shorter tenor, liquidity up to the 10-year tenor has improved. Increased CNH bond issuance has resulted in higher demand for corporate funding/ liability hedging, particularly in the five-year tenors since mid More real money and hedge fund investors are trading the CNH CCS curve for hedging or trading purposes. Deutsche Bank believes the CNH CCS curve is now the most important offshore RMB benchmark interest rate curve for the following three reasons: With deliverability, the CNH CCS curve is now actively used by market participants for real funding and hedging purposes. The CNH CCS market complements the existing offshore RMB interest rate derivatives market where Repo NDIRS and SHIBOR NDIRS are traded. Participants in the CNH CCS curve have become more diversified. Corporates, asset managers, banks, hedge funds and high net worth investors are the main players in the market. The balance between their flows determines the dynamic in the CNH CCS market. We believe the expansion in market participation has contributed to: higher turnover; a reduction in transaction costs, whereby the bid-offer spread of the most liquid tenor has narrowed from 5-10 basis points (bps) two years ago to 3-6 bps for shorter tenors (threeyear or shorter) and 6-8 bps in the five-year and longer tenors; and better risk distribution in the CNH CCS market. In our view, these positive developments in the CNH CCS market facilitate further growth in the depth of CNH cash, derivatives and structured products. Figure 8. Derivatives products for corporates Deutsche Bank is at the forefront of financial engineering in the CNH market. Our client offering reflects the size and depth of our trading business: we offer more competitive rates on a wider range of FX derivatives than any other bank, and in bigger sizes and longer maturities. Delta One Short-term FX Forwards / CCS Longer term FX Forwards / CCS Lightly Structured USD/CNH FX option market Digital Options Knock-out Options Complex Risks Path Dependent Instruments, Target Profit Forwards and variations Hybrid Solutions Corporate Demand Vanilla Cash flow Hedging Strategic Liability Management Disclaimer: Use of certain products mentioned here are subject to clarification by regulators Corporate Demand Lightly structured products for Cash flow hedging including Risk Reversals Corporate Demand Flexible Instruments to hedge USD-CNH exposures across various tenors Commodity and FX Hybrid Hedging Instruments A brief guide to China s global currency 13

16 Why use Deutsche Bank for your RMB trade needs? We provide the full range of onshore and offshore RMB cash management, trade finance, trust and securities services and have a strong grasp of the regulatory environment. Full suite of onshore RMB cash management and trade finance services Corporate treasury support across RMB financing and risk management Comprehensive cross-border RMB solutions Agency and custody services for RMB assets We have a track record of providing award-winning solutions that enable clients success. Best Trade Finance Provider Euromoney 2015 Best Structured Trade Finance, China Best Regional Renminbi Solution for Bosch Group The Asset, Triple A Awards 2015 To harness opportunities presented by the internationalisation of the RMB, it is critical to partner with a bank that can help you navigate its challenges. Deutsche Bank for RMB solutions. 14 A brief guide to China s global currency

17 Transaction banking Redenomination of cross-border trade in RMB may bring efficiency improvements, reduced transaction costs and discounts in some cases. Meanwhile, the recent relaxation of regulatory restrictions makes it easier for multinational companies to manage cash and move funds from their China operations across borders relatively freely. Over the last several years, rapid expansion of RMB infrastructure has seen the offshore market transform from a single hub model with centralised offshore RMB clearing in Hong Kong, to a multiple hub model across financial markets worldwide. As of March 2015, China had signed 15 bilateral agreements with foreign central banks to establish offshore clearing arrangements. These developments demonstrate a high level of commitment from key international markets to use the currency for trade and investment and are enabling cross-border RMB payments in non-asian time zones. Deutsche Bank expects brisk expansion of the offshore RMB market to continue, supported by ongoing policy reforms and expanded financial market infrastructure. As the universe of RMB products further diversifies, the infrastructure supporting cross-border and offshore payments will also continue to evolve. China is developing a new Financial Market Infrastructure (FMI) known as the Cross-Border Inter-Bank Payments System (CIPS) in 2015 to address some of the challenges of cross-border payments associated with time zone coverage, payments routing and interoperability with the infrastructure for other currencies. There is a strong market expectation that CIPS will enhance the RMB s efficiency and international accessibility for market participants, and enable both foreign and Chinese companies to receive and pay more easily in RMB. Use of RMB for trade settlement The use of RMB in trade settlement has been the primary building block in the internationalisation of China s currency. China s cross-border trade volumes settled in RMB were up 42% in 2014 from 2013 levels, which in turn were up 57% from 2012 levels. A key factor when selecting the currency for a trade transaction is to determine which party bears the associated exchange rate risk. The main attraction for companies to settle trade in RMB is the potential for better pricing when transacting with a Chinese counterparty. Market observations suggest that Chinese exporters often add a buffer of as much as 5% to guard against unfavourable exchange rate movements. If the two parties to a cross-border transaction are willing to trade in RMB, then the Chinese party may offer a discount, as the exchange rate risk will be borne by the offshore counterparty. This arrangement can be mutually beneficial as the cost of hedging offshore can be significantly lower than hedging costs onshore. Furthermore, companies may be able to widen their supplier and customer bases to include Chinese companies which may previously have been inaccessible due to an unwillingness or inability to transact in a foreign currency. From the perspective of a Chinese exporter, settling cross-border trade in RMB reduces administrative burdens, exempting them from the Value-Added Tax (VAT) refund verification which is required for settling in foreign currencies. From the perspective of a Chinese importer, settlement in RMB offers the opportunity to issue an import letter of credit in RMB with a tenor exceeding 90 days. By comparison, settlement in foreign currency would require the use of the issuing bank s short-term foreign debt quota (which is a scarce resource that is subject to regulatory approval). A brief guide to China s global currency 15

18 Relevance of RMB trade for both exporters to China and importers of Chinese goods Invoicing goods in RMB may allow for the following benefits: Growth in your client base, given the preference for Chinese importers to pay in RMB The ability to minimise FX exposures related to any RMB costs incurred in the sales process Eliminate costs associated with foreign FX conversion and regulatory approvals for funding onshore subsidiaries Reduce supply chain costs by recycling RMB received from sales to fund onshore operations Paying for goods in RMB may result in: A broader supplier base, given the preference for Chinese exporters to invoice in RMB More favourable and transparent pricing of goods Minimised FX risk by funding purchases with RMB Reduced supply chain costs Growing range of trade solutions It is today possible to manage payment and financing processes across the entire trade lifecycle using the RMB, whether it is in the form of import/export letters of credit (LC), documentary collection and open account payments, or associated trade finance. Switching to RMB can often enhance supply chain relationships and lead to improved treasury efficiency. Adopting RMB for trade finance and settlement can also allow for greater flexibility in payment terms, potentially resulting in a lower cost of funds. To enable our clients success, Deutsche Bank can provide a full suite of RMB trade services with incorporated FX solutions. The following are some typical examples: i Companies invoice in RMB for an import/ export transaction with a Chinese counterparty and use Deutsche Bank s offshore trade finance solution with embedded deliverable forward contract or non-deliverable forward (NDF) to satisfy funding and FX hedging needs. ii Companies invoice in RMB and use a letter of credit, while Deutsche Bank confirms and discounts RMB letters of credit in crosscurrency. iii Companies use back-to-back letters of credit, with one leg denominated in RMB. iv Companies use cross-border RMB guarantees to facilitate cross-currency trade finance from cost-favourable markets. Simplified procedures for RMB trade settlement The nationwide rollout of the Simplified RMB Cross-Border Payment Scheme in 2013 has resulted in vastly more efficient RMB trade settlement. RMB payments can be processed prior to documentary verification to enhance straight-through processing (STP) and further automate cross-border payments. This has also enabled companies to better integrate RMB into their Electronic Data Interchange (EDI) for expedited payments processing and treasury management. Figure 9. Corporate adoption of RMB in trade cycle Using deferred/sight payment term to produce a natural intra-company finance structure, and gain access to lower cost of funds market Overseas Buyer / Seller Corporate / Re-invoicing centre China Buyer / Seller Invoice and settle in RMB or foreign currency flexibly to facilitate effective use and management of FX 16 A brief guide to China s global currency

19 Cross-border solutions for working capital management The RMB has rapidly emerged as a treasury management currency, enabling corporates to save cost, improve efficiency, manage risk and enhance access to China. Although the onshore RMB market is still regulated, recent relaxations have expanded the range of possible financing structures and solutions available for multinationals (MNCs) with operations in China. As a result, RMB adoption may allow an MNC s foreign exchange management to be centralised in a regional or global centre, with more efficient payment and collection processes. Apart from streamlining operations, opportunities arising from capital account liberalisation are also conducive to risk management in FX hedging, trade financing and debt-capital market (DCM) funding via the offshore RMB market. Figure 12 presents a summary of China s prevailing cross-border solutions. Figure 10. Prevailing cross-border solutions with Mainland China Injection Foreign Debt Capital Injection Offshore RMB Bond SHFTZ RMB borrowing SHFTZ Free Trade Zone Accounting Unit (FTU) borrowing Offshore borrowing in other pilot areas Mainland China Two-way cross-border RMB 2-way cash sweeping FCY cross-border scheme Repatriation RMB/FCY cross-border external lending Dividend repatriation A brief guide to China s global currency 17

20 Figure 11. Pros and Cons of prevailing cross-border solutions Pros Cons Dividend No need to repay Requires board resolution Must pay withholding tax Cash Repatriation Cash Injection RMB/FCY External Lending RMB two-way Cash Pool FCY cross-border scheme Foreign Debt Capital Injection SHFTZ RMB borrowing SHFTZ FTU borrowing RMB: i) Nationwide scope, ii) No lending quota, iii) Easy execution FCY: i) Nationwide scope, ii) Easy execution Nationwide scope Two-way automatic sweeping to fully leverage onshore and offshore intra-group funding Frees inbound & outbound flows without deal-by-deal regulatory approval Does not utilise foreign debt quota Nationwide scope Consolidated foreign debt/external lending quota for all onshore participants usage Can borrow in RMB or FCY Flexible source of offshore funds No need to repay May potentially enlarge the foreign debt quota Quota is up to 100% of paid-in capital Does not utilise foreign debt quota Quota is potentially up to 200% of capital base Can borrow in RMB or FCY No borrowing tenor requirements RMB: i) Requires deal-by-deal manual execution, ii) Requires positive financials FCY: i) Quota limited to 30% of equity, ii) Need SAFE approval SHFTZ scheme: Leading entity must be registered in SHFTZ Nationwide scheme: i) Need to meet eligibility requirements: 3 years of operations and over RMB 5 billion/rmb 1 billion sales turnover for onshore/offshore, respectively, ii) PBOC pre-filing is required SAFE pre-filing is required Quota is subject to borrowing gap (i.e. the difference between the total investment and the amount of registered capital). Chinese LLCs can apply for approval from MOFCOM or SAFE to access foreign debt. Need SAFE approval More time consuming: i) foreign capital injection requires MOFCOM approval and SAFE filing, ii) internal capital injection needs board resolution Only applicable to corporates registered in SHFTZ Funds can only be for the purpose of self-usage for operating activities. Borrowing tenor must be over one year Only applicable to corporates registered in SHFTZ Funds can only be for the purpose of self-usage for operating activities Service is only available in banks with FTU system Offshore RMB Bond One-off large amount of stable funding Strict application requirements to issue bonds Requires case-by-case approval from National Development and Reform Commission (NDRC) Currently no standard fund flow mechanism from offshore to onshore, requires case-by-case approval 18 A brief guide to China s global currency

21 RMB intra-group cross-border lending Subject to participation criteria, PBOC approval is no longer required if a China entity lends its own RMB funds to an affiliated offshore company. The application goes through an onshore bank with responsibility for evaluating eligibility, verification and processing. Onshore subsidiary companies can lend either to the offshore parent company, or affiliates within same group. Mainland Chinese entities are allowed to issue RMB inter-company loans to their offshore parent companies, subsidiaries and affiliates. The lending quota is based on the entity s equity base (potentially up to 100%). Deutsche Bank is among the leading banks in executing RMB inter-company cross-border lending. Our cash management system can achieve automated sweeping to enable straight-through processing of cross-border RMB payments. Two-way cross-border cash sweeping to optimise working capital and liquidity management Recent regulatory changes have enabled twoway cross-border cash sweeping, significantly alleviating Onshore the problem of trapped cash in China. Inter-company funding constitutes a reliable and efficient source of funding Nationwide whereby cash generated within Mainland China can be used Domestic RMB Cash Pool to fund offshore operations. Alternatively, an overseas cash pool can be used to fund working capital needs onshore without being subject to foreign Member debt 1 quotas. Member 2 Leading entity (RMB Special Account) Two-way cross-border sweeping through this Special Account Figure 12. Two-way cross-border cash sweeping: Shanghai Free Trade Zone (SHFTZ) Two RMB cross-border cash sweeping schemes are available. One scheme, announced by PBOC in February 2014, allows cross-border cash sweeping with the leading entity in the Shanghai Free Trade Zone (SHFTZ). A second scheme announced in November 2014 allows RMB twoway cash pooling on a nationwide basis. The two schemes run in parallel, but are characterised by different participation criteria and parameters for the sources and utilisation of funding. Under both schemes, cash pools can generally be used to fund a company s own working capital needs. Entrusted loans to non-member firms, financial and real estate investments are not permitted. The length of time required for implementation typically ranges from four to ten weeks, depending on the prior existence of a domestic cash pool and offshore accounts. Deutsche Bank was among the first foreign banks to introduce automated RMB cross-border cash sweeping services to clients in China and was the first bank to execute a two-way cross-border sweep in Shanghai under the PBOC s nationwide scheme. RMB cross-border payments/collections-onbehalf-of (POBO/COBO) Border and Offshore netting In the past, companies making overseas payments, even to intra-group Overseas companies, HQ/RHQ were required to provide underlying trade documents listing both counterparties behind the transaction. Under the PBOC s recent Member 1 Member 2 nationwide guidelines, eligible multinationals Quota control on net Inflow (from offshore Border to onshore) Onshore SHFTZ Border Offshore Domestic RMB Cash Pool Leading entity in SHFTZ (RMB Special Account) Overseas HQ/RHQ Member 1 Member 2 Member 1 Member 2 Two-way cross-border sweeping through this Special Account No Quota control Figure 13. Two-way cross-border cash sweeping: Nationwide scheme Onshore Border Offshore Nationwide Domestic RMB Cash Pool Leading entity (RMB Special Account) Overseas HQ/RHQ Member 1 Member 2 Member 1 Member 2 Two-way cross-border sweeping through this Special Account Quota control on net Inflow (from offshore Border to onshore) Onshore SHFTZ Border Offshore A brief guide to China s global currency 19

22 can use netting to centralise RMB payments and collections for individual member firms, or for the group company. The new POBO/COBO regulations make it possible to nominate one entity within the group to transact payments and collections on behalf of all group entities. Similarly, payments can be made directly to any offshore payment factory or netting centre as an alternative to making a series of individual payments to suppliers. Cross-border netting allows companies to reduce transaction fees and streamline processes associated with internal workflow and documentation. Wider scope for offshore RMB borrowing Offshore funds are typically available at lower rates than onshore funds; however offshore borrowing has generally been subject to the limits of a foreign debt quota. Recent reforms have broadened the scope for offshore borrowing within pilot areas such as the SHFTZ, the Qianhai Zone, Tianjin Eco-city, Suzhou Industrial Park and the Kunshan Industrial Experimental Zone. Authorities have encouraged more offshore financing in RMB by issuing rules that allow firms within the SHFTZ to borrow potentially up to twice their capital base through overseas funding double the previous limit. Deutsche Bank s product specialists can work with you to determine the most suitable solution by considering eligibility, scope of usage and the applicable inbound quota for your business Figure 16. Decision tree for cross-border solutions Cross-border Solution Key Features RMB External Lending Nationwide; No lending quota Cash Outbound Group or Entity level? Entity FCY External Lending Nationwide; Quota is 30% of equity (50% for SHFTZ) Group Dividend Withholding tax applies Yes SHFTZ RMB two-way cross-border cash pool Only SHFTZ; No quota; China Subsidiaries Two-way RMB or FCY? RMB In SHFTZ? No Nationwide RMB two-way cross-border cash pool Nationwide; Inbound quota is 10% of equities FCY Nationwide FCY crossborder scheme Consolidated foreign debt & external lending quota Group No Foreign Debt Subject to borrowing gap Cash Inbound Group or Entity level? SHFTZ RMB borrowing Quota is 100% of paidcapital in Entity In FTZ? Yes SHFTZ FTU borrowing Quota is potentially up to 200% of capital base Other FTZ borrowing Subject to specific FTZ policy 20 A brief guide to China s global currency

23 Switching to RMB Payments: A checklist of practical considerations for corporate treasurers Although Renminbi adoption can bring a host of benefits, the crucial issue is implementation. Firsttime implementation will necessitate changes to existing treasury management processes, operating procedures, accounting valuation, and contractual arrangements for cross-border trade receivables and payables. 1. Identify the scope of internal changes Should I re-negotiate sales terms or pricing with my trade counterparties? Should I ask my suppliers for a dual currency quotation (RMB and USD) or a single currency quotation (RMB only)? Which of my trade counterparties are more likely to accept re-denominating into RMB? Will I gain any benefits at a cost level if I redenominate in RMB? 2. Internal awareness and education When USD is entrenched as the standard payment currency, how can I introduce a new currency to my internal stakeholders? What are the key aspects about paying in RMB that my internal stakeholders need to know? Who would I need to involve in a crossdepartmental work stream on RMB? Who can provide in-depth training / workshops for various stakeholders within my organisation? Which rules and regulations related to the RMB do my stakeholders and I need to keep abreast of? 3. Receivables and payables management How will the differences in permissible trade tenors between currencies affect my receivables and payables management? How can I manage the FX risk derived from the onshore and offshore exchange rate differentials for transactions with a long trade tenor (especially for payables above 90 days)? How will I be able to manage my intercompany receivables and payables if I am unable to net my RMB transactions? 4. Accounting, financial reporting and crossborder reconciliation of RMB exposure Since IFRS require the same internal RMB FX booking rate for both onshore and offshore subsidiaries, which booking rate should use (e.g. CNY rate or CNH rate)? If I reflect my onshore RMB position using offshore RMB exchange rates (CNH rate), will it be in line with the requirements of China Corporate Accounting Standards? What are the possible balance sheet implications when reflecting exposure in a CNY rate and in a CNH rate? As most of the China Corporate Accounting Standards were created before the internationalisation of the RMB, how should I reflect my RMB receivables/payables from offshore counterparties? 5. Tax implications of RMB re-invoicing and redenomination From a tax angle, which transactions should be re-invoiced as cross-border payments? How do I handle the Export Tax Rebate for RMB transactions? What are the possible VAT (Value Added Tax) implications for re-invoicing? 6. Offshore Regional Treasury Centres (RTCs) for RMB payments Where should I set up a RTC or re-invoicing centre? How do I set up a RTC to facilitate RMB payments? How will a RMB RTC affect the way my existing global treasury management is set up? A brief guide to China s global currency 21