HKMA Warns Carry Trades Could Weigh on Hong Kong Dollar

Hong Kong's de-facto central bank has cautioned that a growing interest-rate gap between the city and the United States could encourage carry trades and nudge the local dollar toward the weaker edge of its permitted range.

The Hong Kong dollar slipped to 7.8456 against the US dollar in afternoon trading, its softest level in a month. The currency is held within a tight band of 7.75 to 7.85 and has been drifting toward the weak side in recent weeks. The Hong Kong Monetary Authority intervenes when the exchange rate reaches either boundary to preserve the peg.

"The HKD-USD interest rate differential will widen, and carry trade activities may cause the Hong Kong dollar to gradually ease," Eddie Yue, chief executive of the authority, said in a statement.

The pressure stems from two opposing forces. A global bond selloff and mounting inflation concerns have pushed Treasury yields higher and strengthened the greenback, while Hong Kong borrowing costs have stayed low on subdued credit demand. That combination widens the rate gap that makes Hong Kong-dollar-funded carry trades attractive.

Samuel Tse, a rates strategist at DBS, wrote in a note that he did not anticipate an HKMA intervention. He pointed to the possibility of a softer US dollar on fiscal worries, and said the Hong Kong dollar could draw support from higher local rates that track Federal Reserve tightening as well as the government's new five-year plan to aid the economy.

Separately, the authority raised the base rate charged through its overnight discount window by 25 basis points to 4.25%, following the Fed's move.