As we previewed on Thursday, the biggest event of the week, and perhaps of the month, was not Friday's nonfarm payroll report, but the January update of China's FX reserves, which the PBOC released last night. The number came out at $3.2309 trillion, down $99.5 billion from the prior month, and $8 billion less than the December outflow of $107.6 billion.
And even as China added $3.4 billion to its gold reserves, which rose to $63.6 billion or an increase of half a million ounces to 56.66 million, this reduced the total amount of Chinese foreign reserves to the lowest level since May 2012, and down from the $4 trillion peak in the summer of 2014 when the US Dollar started its rapid appreciation on rate hike concerns, and led to nearly a trillion dollars in Chinese capital outflows.
Recently, an important question that has emerged is for how much longer can China sustain its FX intervention before tapping out and letting the hedge funds win with their short Yuan bets once total reserves drop below the critical redline of approximately $2.7 trillion as calculated by the IMF - the answer is between 5 months and 10 months assuming monthly reserve burn rates of $130BN to $60BN.
That, however, is a bridge we will cross some time in the summer of 2016.
For now the real question is what does the January Chinese FX outflow mean for risk come Monday's open, and how will it affect markets when they start opening tonight, if not in China which is closed for the week for its new year celebrations.
Recall that in our Thursday preview we warned that according to one of the more prominent bears from BofA, Michael Hartnett, had the reserve outflow come in well below expected, it would unleash a "vicious bear market rally."
This is what we said:
According to consensus estimates, China will report that its total FX reserves declined to $3.2125 trillion from $3.33 trillion: a drop of $118 billion, or modestly higher than the massive December $108 billion outflow.
In other words, a reported number below, and certainly substantially below, $118 billion for the January outflow and it would be off to the races as a massive short squeeze will grip all the commodity and materials-linked sectors.
That said, keep in mind that BofA itself had a far more optimistic forecast than consensus:
"We forecast China FX reserve changes and estimate a USD37.5bn fall in January – (USD29.1bn decline adjusting for a negative FX valuation effect). Note that the standard error of the forecast is large at USD24.5bn, which would give us a downside of USD84.5bn fall. We caution that this is guidance and we attempt to be as transparent as possible so investors can gauge the odds in what is a key release for the markets. Note too this is based on onshore CNY FX volumes and our estimate maybe biased down as there are no real time volumes for offshore CNH.
And then there was Goldman, because just as a far smaller than expected number would be very bullish, so a far greater outflow would be bearish. According to estimates by Goldman Sachs, not only did outflows not slow down as dramatically as BofA believes, but they in fact soared to an all time high $185 billion in January.
This is what Goldman said: "There has been around $USD 185bn of intervention (with the recent intervention predominantly taking place in the onshore market)" split roughly $143 billion on the domestic side and $42 billion on the offshore Yuan side." In the last few days, Goldman actually bumped up this forecast to $197 billion to account for valuation adjustments.
This is how we concluded:
So there is your bogey, one which will set the mood for risk over the next month: this weekend, China will announce its January reserve outflows which are expected to decline by about $120 billion. Should the number be far less (ostensibly closer to BofA' estimate of $37.5 billion) expect a whopper of a bear market rally coupled with a huge short squeeze. If Goldman is right, however, with its record ~$200 billion in FX intervention and implied outflows, then all bets are off.
The actual number (whether it is fabricated or not, and since this is China, all bets are on the former) came in at $100 billion, modestly below the consensus estimate of $120 billion, well below the Goldman worst case scenario of $197 billion, and well above the BofA "best case" of 37.5 billion.
Or smack in the middle of a Goldilocksian no man's land.
What does it mean for markets? Ironically, this may have been the most unfavorable outcome, because had China admitted the true severity of its outflows, there would have been a downward flush in asset prices, after which the market could focus more on fundamentals and rise from there with the Chinese capital outflow threat no longer dangling overhead; alternatively, a shockingly small number would have crushed the shorts only to let them re-establish bearish positions after the initial spike higher.
As it stands now, however, what is really happening with the biggest risk factor to commodity, credit and capital markets, remains a mystery, and instead of getting some much needed clarity from China's January reserve number, the world's traders and investors will now have to wait for the February reserve update one month from now to learn if China has managed to slay its capital outflow demons, or if these were just getting started.
For markets, what this means is that the next month will likely be market by more of the same sharp, illiquid volatility that has characterized 2016 so far.