The People’s Bank of China (PBOC) sets the daily midpoint for the yuan and runs a managed floating exchange rate system. This allows the yuan to fluctuate within a range of +/- 2%. Recently, the PBOC established the USD/CNY central rate at 7.1089, which is stronger than the expected 7.1325. The prior closing rate for the currency was 7.1375. Additionally, the PBOC engaged in operations totaling 255.7 billion yuan in 7-day reverse repos at a 1.40% interest rate. With 405.8 billion yuan maturing on the same day, this leads to a net withdrawal of 150.1 billion yuan from the financial system. Today’s actions indicate that the central bank is strongly committed to supporting the yuan. By setting the reference rate significantly above market expectations, the PBOC sends a clear message against rapid depreciation. This move is important for traders to consider. This defense happens even with recent concerns about the economy. For example, the official manufacturing PMI for August 2025 was 49.8, suggesting a slight contraction and ongoing economic challenges. The central bank is prioritizing stability instead of allowing the currency to weaken based on economic rules. In the weeks ahead, we can expect that implied volatility for USD/CNY options might increase due to the disconnect between policy decisions and economic data. The PBOC’s firm approach will likely keep the spot rate from rising significantly for now, indicating that the 7.15-7.20 range will be a crucial focus. This strategy isn’t new. From 2023-2024, the PBOC used strong fixings to manage the yuan’s decline when it crossed 7.30 against the dollar. This historical context suggests that the PBOC has a plan for such scenarios and is ready to act. Their determination should not be underestimated in the near term. For those involved in derivatives, selling short-dated USD/CNY call options with strike prices above 7.20 might be a good strategy to earn premiums. The central bank effectively sets a ceiling on the pair, making a sudden increase less likely. However, it’s important to keep an eye on trade balance and industrial output, as a sharp decline in these areas could prompt a shift in policy. The modest net liquidity drain supports this view by making it a bit more costly to hold short yuan positions, which helps discourage speculation and supports currency stability. We anticipate that this careful management of the exchange rate and liquidity will continue.

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