Jim Rickards on a September Tapering; And His Reaction to Our Chinese Currency Bait and Switch Theory

Tired of tapering talk? On to more pressing matters, such as the Occidental/Oriental monetary fulcrum and just upon whom (or what) this seesaw sits. Seems an investment in China might just not be what it seems to be. Think Three Paddy Hat [11] Monty.

First things first, though. At 2:00 in, we asked Jim Rickards about mutiny at the Fed and the FOMC's prisoner's dilema vis a vis the global central banking cartel, and he explains why a tapering (if any) is most likely to be announced in September (first covered on Zero Hedge on June 28, 2013 [12] -- CNBC being a little late to the party [13] today).

Other topics include:

the Fed's 13 separate monetary policies, which actually means no policy;
the "stop and go" nature of Fed QE that is reminiscent of the Tory government of the 1980's;
secret central banker meetings going back to the 1930's in Switzerland;
the policy of not "beggar thy neighbor" but "enrich thy neighbor";
cross rates and emerging markets: "China, Taiwan, Korea, Indonesia, Thailand, Brazil, Switzerland" [Yes! Switzerland -- think about that, which we'll dig into next week].
the G4 versus the G16;
the Lagarde coordinated Yen intervention after Fukishima;
an imminent international monetary system collapse in the next three to four years;
a game of Texas Hold 'Em, where the chips are gold;
the Russian and Chinese gold acquisition game;
tapering with a blunt instrument (think Tanya Harding);
Potempkin Chinese cities....and why an investment in China is subject to the ultimate counterparty/clearing/legal risk.

This last one [at about the 17:00 mark], we eagerly explain to all those high net worth individuals who are investing in the "Chinese miracle."

Investments in China nowadays are increasingly being sold to foreign investors through Hong Kong in the form of bonds, and as such are denominated in CNH (Hong Kong Yuan). The proceeds are then converted to CNY (Chinese Yuan) and spent on the mainland. The two currencies are pegged, but they're not precisely 1:1. There are also direct investments in China in Chinese Yuan, which are increasingly hedged in Hong Kong.

There has been a tremendous investment in Hong Kong's exchange and clearing organizations, which we have documented here [14] and here [15]. Hong Kong (HK) is becoming a major derivatives player and it is obtaining substantial hedging business as a result of this and also from increasing investments in the mainland. However, China/HK has a unique derivatives structure: it is the only country/area in the East that has two derivatives master netting agreements: one for Chinese onshore (NAFMII) and one for cross border (the International Swaps and Derivatives Association, or ISDA).

The importance of this should not be overlooked. Netting agreements govern the way banks and financial institutions handle their net exposure with other financial entities. Oftentimes, a position is not closed out, but an opposite position is taken, so the net effect is zero exposure (theoretically). Margin is also calculated on an entire derivatives portfolio (hence the term "netting"). Nearly the entire developed world uses the ISDA master netting agreement (see here for who's on the board of the ISDA [16]; hint: usual suspects). This includes Hong Kong, as we said above. But China mainland has developed its own agreement with different rules. The first implication is that investments in China mainland CANNOT be properly hedged in Hong Kong. Except, this is exactly what is happening. TradeWithDave.com discussed this here in January, 2012 [17]:

Charles Feng, regional head of fx, rates and credit trading for North East Asia at Standard Chartered in Hong Kong, said RMB (China’s Renminbi currency) is now viewed by many investors as a fully convertible and fungible currency.

“The centre of the action is still obviously in Asia, but we see more European corporates who used to do their USD/CNY hedging in non-deliverable forwards or onshore USD/CNY. They’re now using USD/CNH to hedge their exposures. The European base and customer are expanding quite rapidly as well.”

Institutional Investor Derivatives Week, December 26, 2011

http://www.iinews.com/site/rss/DW122611.pdf [18]

An ISDA master agreement and a NAFMII master agreement will not be fungible, for instance, meaning banks will have to set aside two different sets of capital for both instruments. Clearing houses looking to settle both types of derivatives will also have to collect two different sets of margin, the official said. “But, if NAFMII does get appproval, all it takes is one local Chinese bank to say that it’s going to use it, say the Bank of China, then you’ll have every local bank using it,” the official said

From the November 28th edition of the same publication.

http://www.iinews.com/site/rss/DW112811.pdf [19]

See page 4 of this document [20], which outlines China's dual master netting agreement structure, which is in full force and effect.

The bottom line: with the Chinese government talking officially about restricting malinvestments and no longer building ghost cities, it's going to be a bumpy ride down. And legal protections for investors ought to be few and far between.

-EB