Analysts at TD Securities explained that further steps to open up China’s capital account won’t spare CNY from necessary correction. Key Quotes: "The pressure on the renminbi and the capital outflow situation that China is managing its exchange rate depreciation against has created the perception that the country may move to unwind its long term efforts at liberalizing its capital account, in order to defend the currency against capital flight. Counter to this worry, China announced yesterday that it would open quota-free access to its interbank bond market. This is still likely to be highly monitored by China, via a registration system with a clearing bank, and thus more open to long only asset managers rather than hedge funds that could provide destabilizing capital outflows. This is obviously an important step as the world is implicitly ‘underweight’ China thanks to the long held capital controls, with gross portfolio liabilities-to-GDP at a level much below those that are expected for an economy of its size and importance (Q3 2015 figures stood at 7.3% of GDP, of which the debt component is a meagre 2.2% of GDP). While this will hopefully be a CNY-positive down the line, it is unlikely there will be a clamouring for exposure until the renminbi has depreciated to the point where it has built in a sufficient risk premium. Chinese government bonds generally are yielding 2.3%-2.9% out to 10-years, which combined with our view that the renminbi is set to depreciate to 6.95 into year end, implies a loss on a spot basis of over 3%. If our thinking is mirrored by asset managers, it will bear waiting for a proper adjustment in renminbi valuation before looking to gain exposure to the onshore fixed income market. One interesting by-product of this decision is that it may quite negatively impact the demand for dim sum bonds in the offshore market, as investors will have more of a pure-play option to obtain RMB exposure via the onshore, outside of a desire for direct exposure to certain names in the credit space that trade only in Hong Kong. However, this is not necessarily a negative for CNH, and indeed it may help manage the convergence between the onshore and offshore exchange rates, particularly if the CNH rate is trading at a discount to CNY. Money managers may then be incentivized to source their renminbi from the offshore market in order to put onshore for the purpose of bond purchases. This would actually help convergence in the offshore to onshore market under significant enough price dislocations." For more information, read our latest forex news.