China Yuan ETPs

Published on by on August 18, 2011

In addition to the nearly two dozen ETFs offering exposure to Chinese equities, there are multiple products that allow investors to access the Chinese currency, officially known as the renminbi but often referred to as the yuan.

The yuan has historically been tied to the U.S. dollar, an arrangement that obviously limited interest in the currency as an investable asset. But in recent years Chinese authorities have taken steps towards allowing the yuan to float freely, a goal that international regulators and politicians have widely supported.

Yuan’s History

The value of the yuan has fluctuated historically. Originally pegged at a rate of about 2.5 yuan per U.S. dollar, the Chinese currency was allowed to appreciate to about 1.5 yuan per U.S. dollar during the 1970s. During the 1980s, the yuan was devalued to strengthen the competitiveness of China’s exports, and the official RMB/USD rate drifted from 1.50 to 8.62 by 1994. Between 1997 and 2005, the peg was maintained at 8.27 yuan per U.S. dollar.

The currency peg was lifted in July 2005, resulting in an immediate appreciation to 8.11 yuan per U.S. dollar. In subsequent years, China allowed gradual appreciation of the yuan, but reinstituted a peg during the depths of the financial crisis in 2008.

Beijing has since taken additional steps to allow appreciation, though the movements have been minor.

Currently, the exchange rate is slightly below 6.5 yuan to per U.S. dollar. The exchange rate is a managed floating exchange rate, meaning that the price of the U.S. dollar relative to the yuan is allowed to float within a fixed band around the central parity rate published by the Central Bank of China.

China’s moves towards currency independence have been widely praised by international authorities, and some investors expect that yuan will continue to appreciate against the dollar in coming years. If that scenario does play out, the appreciation will be gradual; investments in the yuan are unlikely to deliver big gains, but have the potential to be a source of low volatility positive returns.

Comparing Yuan ETP Options

For investors interested in achieving exposure to the Chinese yuan, there are two exchange-traded products to choose from: the WisdomTree Dreyfus Chinese Yuan Fund (CYB) and the Market Vectors Chinese Renminbi/USD ETN (CNY). While these two products are similar in some ways, they are quite different in others.

WisdomTree Dreyfus Chinese Yuan Fund (CYB)

CYB is a true 1940 Act ETF, and is an actively-managed product that seeks to capture returns representative of both 1) money market rates in China available to foreign investors and 2) changes in value of the Chinese yuan relative to the U.S. dollar.

In order to understand the returns that can be expected of CYB, it’s important to examine the underlying assets of this ETF. The portfolio consists of U.S. Treasury Bills, repurchase agreements, and money market accounts, as well as currency contracts. Recently CYB held nearly 100 different currency contracts, with maturities spread throughout 2011 and 2012.

Given this methodology, CYB may not always deliver returns that correspond perfectly to the value of the Chinese currency. The ability to capture money market rates may be appealing; currency investing can be a zero sum game, but by investing in short term debt there is an opportunity to enhance yields slightly.

Market Vectors Chinese Renminbi/USD ETN (CNY)

This product offers a simplified approach to investing in the value of the yuan relative to the dollar. CNY is an exchange-traded note (ETN) that is linked to an index based on the exchange rate between the two currencies. As such, investors can expect the indicative value of this note to move roughly in line with the official RMB / USD exchange rate.

Verdict: CYB vs. CNY

The two ETP options for exposure to the yuan may be generally similar, but the nuances of these products result in unique risk / return profiles. For those who prefer to achieve exposure through an ETF, CYB is the clear choice; as an ETN, the Market Vectors product exposes investors to the credit risk of the issuing institution.

There are some advantages to the ETN structure as well; the lack of tracking error may be appealing for certain strategies.

Another potential advantage of the WisdomTree fund is the inclusion of returns generated by both money market rates and exchange rate fluctuations. CNY, on the other hand, simply moves with the value of the yuan.

CYB is also cheaper by ten basis points; a considerable gap considering that expected returns for this asset class are generally small.

Overall, we prefer CYB as the better tool for betting on the yuan. But as shown below, in certain environments the ETN can deliver much better returns; the 100 basis point gap in 2009 highlights the impact of the structural nuances on bottom line returns.

Finally, it should be noted that there may be some unique tax ramifications depending on the structure employed.

Ticker Name Structure ER 2010 Gain (Loss) 2009 Gain (Loss)
CYB Dreyfus Chinese Yuan ETF Active ETF 0.45% 1.2% 1.2%
CNY Chinese Renminbi/USD ETN ETN 0.55% 0.9% 1.9%

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