As share markets flatlined on as uncertainty over the outlook for US interest rate cuts, the Chinese yuan's slump sapped their appetite for risk, with dealers saying state-owned banks were seen selling dollars to support the yuan.
China's yuan fell to fresh 11-year lows on Thursday amid worries about the deepening Sino-US trade war, despite support from major state-owned banks in both the spot and forwards markets.
Spot yuan ended the domestic session down 0.34 percent at 7.0875 per dollar, its weakest such close since March 14, 2008.
Traders said sentiment was fragile, with recent news headlines offering little hope of a US-China trade deal anytime soon and new US levies on Chinese goods set to go into effect on September 1.
China hopes the United States will stop its wrong tariff action, the commerce ministry said on Thursday, adding the imposition of any new tariffs would lead to retaliatory actions.
US President Donald Trump said on Wednesday he was "the chosen one" to address trade imbalances with China, even as congressional researchers warned that his tariffs would hurt the American economy.
"The market pays very close attention to the China-US trade dispute, and its impact on the yuan is much heavier than other factors, such as economic fundamentals," said a trader at a Chinese bank in Shanghai.
Prior to the market opening, the People's Bank of China (PBOC) set the midpoint rate at 7.049 per dollar prior to market open, weaker than the previous fix of 7.0433.
State-run banks seen were receiving dollar liquidity in the forwards market before selling the greenback in the onshore spot market, two traders with knowledge of the matter said.
One of them said state banks were seen selling dollars at around 7.07 yuan in the spot market to prevent sharper losses in the local unit.
The moves injected a note of caution into the market, fueling speculation that authorities may be trying to put a floor under the yuan, the trader added.
But selling picked up again in the afternoon, prompting investors to place stop-loss orders in their short dollar positions, according to a trader at a Chinese bank.
State-owned banks are widely believed by many investors to act on behalf of the central bank in the country's foreign exchange market, although they can trade on their own behalf as well.
Major banks have been using such tactics frequently in recent weeks as authorities seek to slow the currency's decline after letting it breach the key 7 to the dollar level on August 5. Washington labelled China a currency manipulator hours after the move, which jolted global financial markets.
Acquiring dollars via dollar/yuan swaps and then selling then in the spot market had certainly arrested bigger declines in the yuan, traders said.
One trader the yuan could have crossed 7.1 per dollar this week if state banks had not stepped in.
In addition, major oil companies also have to load up on dollars for their seasonal payments.
Serena Zhou, China economist at Mizuho Securities in Hong Kong, said the break of the closely watched 7 level has given the yuan more flexibility. She doubts a trade deal can be reached soon and expects more yuan weakness in coming months.
Zhou expects the yuan to finish the year at 7.1 per dollar.
In the offshore market, the yuan was trading at 7.0923 per dollar as of 0850 GMT, off 0.34 percent.
Stocks nudge down
Share markets flatlined on Thursday as uncertainty over the outlook for US interest rate cuts following the release of minutes from the Federal Reserve's last policy meeting kept investors on edge.
The Chinese yuan's slump also sapped their appetite for risk, with dealers saying state-owned banks were seen selling dollars to support the yuan.
The MSCI world equity index, which tracks shares in 47 countries, was down 0.1 percent. In Europe, the Euro STOXX 600 fell 0.1 percent in choppy trade, following a 0.5 percent drop in MSCI's broadest index of Asia-Pacific shares outside Japan .
Wall Street futures gauges were flat.
Minutes of the Fed's July meeting showed deep splits among policymakers over whether to cut interest rates last month, though there was some unity in wanting to signal it was not on a preset path to looser policy.
The Fed cut rates by 0.25 percent in July. While a "couple" of Fed members supported a deeper cut of half a percentage point, "several" favoured no change at all.
That reluctance to loosen policy seems at odds with the expectations for a cut of over 100 basis points by the end of 2020 that are already priced into markets.
Market players said that the minutes reflected a dissonance between expectations for cuts –– fuelled by geopolitical concerns such as US-China trade tensions and economic weakness in major economies such as Germany –– and the apparently solid fundamentals of the US economy.
"The update last night was a bit of a reality check - maybe don't get ahead of yourself on what the Fed is going to do," said David Madden, market analyst at CMC Markets.
"If you forget about the geopolitical headlines, forget about what the bond markets are doing, and look at the underlying indicators of the US ... people are in jobs, earning decent money, and more importantly, spending money."
Indeed, the apparent strength of the world's biggest economy was on display on Wednesday, where Wall Street basked in surprisingly upbeat results from retailers that sent Target surging 20 percent and Lowe's Cos up 10 percent.
But beyond the US, worries about the fragility of the global economy were evident in data from Europe on Thursday.
Germany's private sector continued to struggle in August, suggesting further that Europe's largest economy is heading for a recession after its economy shrunk between April-June.
Eurozone business growth expectations also fell to their weakest in more than six years on trade war fears, even as the expansion picked up a touch in August.