HKMA Chief Executive Eddie Yue warned that USD/HKD could test the weak end of the trading band yesterday, wherein the Monetary Authority would extract liquidity by purchasing HKD. In our view, this risk is increasing at the margin. 1M HIBOR settled at 2.90% as of yesterday after peaking at 3.02% last week. Several factors are exerting downward pressure on front-end HKD rates, including the fading of seasonal HKD demand from quarter-end and dividend payments, alongside moderating demand for HKD assets. The equity market appears to be losing some momentum, with the Hang Seng Index retreating toward the 24,000 levels.
However, both the timing and magnitude of any intervention remain uncertain. We weigh several key considerations. First, the Aggregate Balance, at HKD 54bn, is relatively low by historical standards. This could help buffer against further HIBOR declines and the widening of negative 1m HIBOR-SOFR spreads. Second, net purchases of Hong Kong stocks via Southbound Stock Connect could resume following the conclusion of China's National Day Golden Week holiday today. In fact, the 20-day moving average of net buy volume had already improved from HKD961bn on 15 September to HKD2,309bn prior to the holiday. Third, seasonal liquidity demand from month-end and year-end factors will likely resurface as we approach late October. Fourth, the Federal Reserve is expected to hike its target rate another two times over the next six months, compared to market pricing of three to four hikes. Recent softening in the US labor market and other incoming data prints could keep the DXY rangebound, thereby mitigating depreciation pressure on the HKD.
Given these dynamics, USD/HKD could hover near the 7.85 level for some time without prompting immediate HKMA intervention. The upshot is that upward pressure on HIBOR should remain manageable. We expect 1M HIBOR to reach 3.15% by the end of this year and 3.40% by the end of 1Q27. Strategy-wise, a modest intervention could trigger yield curve flattening following the tactical steepening seen over the past two weeks. While the HKD curve could follow the current USD curve steepening (see the USD rates section) under the linked exchange rate system, HKMA interventions tend to exert additional flattening pressure on the HKD curve via liquidity squeezes.
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