The People’s Bank of China (PBOC) uses a managed floating exchange rate system to set the daily midpoint of the yuan, also known as the renminbi. This system allows the yuan to fluctuate within a specific range, or “band,” around a central reference rate, currently set at +/- 2%.

How the Midpoint is Determined

Every morning, the PBOC calculates a midpoint for the yuan in comparison to a basket of currencies, with a focus on the US dollar. This midpoint takes into account factors like market supply and demand, key economic indicators, and the state of the international currency market. It serves as the reference for trading that day. The PBOC allows the yuan to move within a +/- 2% range of this midpoint. This means the yuan can go up or down by as much as 2% in a single trading day. The central bank can adjust this range based on economic conditions and policy aims. If the yuan approaches the limits of this range or shows excessive volatility, the PBOC intervenes by buying or selling the yuan to maintain stability and ensure a smooth currency adjustment. The anticipated USD/CNY rate near 7.18 indicates that the PBOC is continuing its managed depreciation policy. This signals an effort to prevent the yuan from dropping too quickly in value. Over the past few months, the central bank has set daily rates stronger than expected to counteract weakening trends. China’s recent economic report for the second quarter of 2025 showed a GDP growth of 4.8%, which was just shy of the official 5% target. This might lead policymakers to consider allowing a weaker currency to boost exports. However, there are also worries about capital outflows that could worsen with a rapidly falling yuan. The US Federal Reserve recently kept a hawkish stance, which supports a strong dollar and adds further pressure.

Trading Strategies for Derivatives

For those trading derivatives, the current situation suggests that strategies focused on a slow depreciation of the yuan are wiser than betting on a sudden crash. Selling volatility might be a good choice, as the PBOC’s management and the +/- 2% range make large, unexpected daily movements unlikely. It’s wise to concentrate on options strategies that benefit from low volatility, such as iron condors. We can recall a similar situation in late 2023 when the USD/CNY rate approached 7.30. Then, the PBOC responded with consistently strong fixings and directed state banks to support the currency, effectively limiting the dollar’s rise. It’s reasonable to think we might see similar defensive actions if the yuan weakens significantly in the upcoming weeks. Create your live VT Markets account and start trading now.

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