The People’s Bank of China (PBOC) sets the daily midpoint for the yuan, also known as renminbi (RMB), using a managed floating exchange rate system. The system allows the yuan’s value to fluctuate within a 2% band around a central reference rate.<\/p>\n
Each morning, the PBOC establishes a midpoint for the yuan against a basket of currencies, mainly the US dollar. The bank evaluates factors such as market supply and demand, economic indicators, and international currency trends to determine this midpoint.<\/p>\n
The PBOC permits the yuan to move within a 2% range around the midpoint. This means the currency can increase or decrease in value by up to 2% from the set midpoint during a single trading day.<\/p>\n
If the yuan’s value nears the band’s limit or becomes overly volatile, the PBOC may intervene by buying or selling the yuan. This action helps ensure a stable and gradual currency valuation adjustment.<\/p>\n
In a separate update, China is anticipated to keep lending rates unchanged for the fifth consecutive time, despite the US Federal Reserve’s recent rate cut.<\/p>\n
With the People’s Bank of China holding its lending rates steady for the fourth straight month, we are seeing a clear policy divergence from the West. This comes just weeks after the US Federal Reserve cut its own benchmark rate in early September 2025, citing slowing inflation and a softening labor market. This growing difference in interest rate policy is the most important factor for the yuan in the coming weeks.<\/p>\n
The widening interest rate advantage for the yuan is already being reflected in bond markets. The yield spread between Chinese 10-year government bonds and U.S. 10-year Treasuries has narrowed to its tightest point in over two years, making it more attractive to hold yuan-denominated assets. Looking back at the data from earlier this year, we saw a spread of over 120 basis points, which has now collapsed to under 50 basis points, creating fundamental support for the currency.<\/p>\n
For derivative traders, this environment suggests that implied volatility on the USD\/CNY pair may be overstated. The PBOC\u2019s strong hand in guiding the currency, demonstrated by today’s firm reference rate, points towards a controlled, gradual appreciation of the yuan rather than sharp, unpredictable moves. Selling out-of-the-money options to collect premium could be a viable strategy, as we anticipate the pair will remain within a predictable range.<\/p>\n
The path of least resistance for the USD\/CNY appears to be downwards. The combination of a dovish Fed and a stable PBOC should put sustained pressure on the pair. We saw a similar dynamic in reverse during the 2022-2023 period when aggressive Fed hikes and Chinese easing pushed the USD\/CNY rate significantly higher.<\/p>\n
However, we must watch the daily reference rate settings very closely for any change in the central bank’s tone. The key risk is that Chinese export data for September, due in a few weeks, comes in weaker than expected, prompting the PBOC to guide the yuan lower to support its economy. For now, the strategy is to position for a stronger yuan while being mindful of the +\/- 2% daily trading band as the ultimate boundary for price action.<\/p>\n
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