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Hong Kong’s Dollar Surging Amid Interest Rate Gap With US

Jordan Major

The Hong Kong dollar is set to enjoy its best bull run since 2003 within a trading band. It is pegged to the US dollar since 1983, and currently, it has a significant run since SARS with no signs of slowing amid interest rate gap with the United States, reports.

This strength might be sustained as local borrowing costs are expected to remain higher than US rates in the short term. The situation might stay that way also because Hong Kong’s interbank liquidity pool remains small.

In a world dominated by market volatility due to the spread of coronavirus pandemic, there is one surety for now: Hong Kong’s dollar will continue outperforming the US dollar.

Heightened local rates compared to the US have made the currency the best carry trade in the whole of Asia. Currently, the Hong Kong dollar has gained 0.51% against the US dollar this March.

Liquidity in the Asian city remains so tight though Hong Kong cut its base interest rate twice this month. Thus, the local dollar is nearing the strong end of its trading band at 7.75.

Moreover, the decision by local banks to hoard cash before quarter-end regulatory checks coupled with over 20 days of net local stock purchases by Chinese mainland investors has increased demand for the currency.

Why is the Hong Kong Dollar Strong?

A global shortage of US dollars might also enhance the Hong Kong dollar as a proxy. An economist at OCBC Wing Hang Bank, Carie Li, said:

“The Hong Kong dollar may hit 7.75 in the short term. Hong Kong rates won’t follow the US borrowing costs to decline quickly even after the quarter-end because the local liquidity pool is small, and that will help maintain a wide yield differential.”

This rally is attributed to the increase in the gap between the Hong Kong dollar’s borrowing costs against the corresponding US rates to the widest since 1999. This move makes being long on the city’s currency a lucrative strategy.

The aggregate balance in Hong Kong has dwindled by 70% in the last two years to stand at HK$54 billion. Currently, the Hong Kong dollar is the second best-performing exchange rate in the emerging markets behind the Bulgarian lev over the last month.

In the last two years, as the currency weakened, the local de facto central bank had to sell US dollars to ensure that currency did not drop beyond 7.85, which is the weak end of its trading band.

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