Stronger yuan is sending waves through assets worldwide

From the euro and copper to bunds and luxury stocks, traders are adjusting to the strongest yuan in more than five months after the U.S. lifted the label of currency manipulator from the Asian nation. The two countries are due to sign the first part of a trade accord on Wednesday, another step in the thawing of tensions.

The upshot is a brighter outlook for global growth that's feeding first and foremost into the currencies of both nations, while firing up bets on looser international financial conditions.

As the yuan blasts through key levels, the dollar is now the most oversold against it in two years. The yuan -- up about 4% against the greenback since August -- has gained far less versus a basket of currencies, making this just as much a story of dollar weakness.

"The U.S.'s well-considered decision to refrain from accusing China of being a currency manipulator is an encouraging basis for further negotiations," Marc-André Fongern, head of research at MAF Global Forex, wrote in a note. "The resulting appreciation of the Chinese yuan can be expected to breathe life back into the FX world."

Here's a look at how yuan strength may affect major assets.

- Stocks

Yuan appreciation is being felt most acutely across Hong Kong with markets with the city state tied to global risk-on sentiment and Chinese growth. Shares have gained 11% since a low on Dec. 4, adding $579 billion to market values through Monday and pushing the index back to the level it was trading at last year before political protests escalated.

Similarly, yuan strength is also potentially good news for European exporters like luxury goods manufacturers. While they're able to cope with a weaker Chinese currency, they usually benefit from periods when the yuan is rising.

The MSCI Europe Apparel and Luxury Goods Index has gained 3% this year compared with an increase of about 0.9% for the MSCI Europe Index.

- Commodities

China is the world's biggest buyer of copper and gold, so commodity traders could tell their European stock counterparts plenty of stories about market dynamics in the Asian nation. A stronger yuan typically makes both assets cheaper for local consumption.

For the industrial metal, the rising yuan may therefore provide an additional boost to an already tight market. Copper has climbed 14% above September lows, when the trade-war rhetoric still looked fierce.

Sino dynamics remain key to the direction of gold from here. Chinese New Year -- the peak buying season for the yellow metal -- combined with yuan strength may buttress gold as demand for havens ebb.

- Rates

Speaking of consumption, China absorbs around 7% of German exports -- including some from the kind of luxury companies whose shares are mentioned above. That means Europe's biggest economy stands to gain if the buying power of the Asian nation increases. Throw in an improving global trade outlook, and there could be upward pressure on German bund yields, according to market participants.

That would come as rates are already creeping back toward positive territory for the first time in eight months amid a deluge of supply and increasing hopes that European growth may have bottomed.

- Currencies

Implicit in the yuan strength is an improving outlook for the global economy, which can encourage capital flows out of the safety of U.S. dollars and spur greenback weakness.

Since a shock devaluation in August 2015, turning points for the Chinese currency have coincided with shifts in the dollar-euro pair as China influenced the global macro cycle. But during the trade war the yuan's correlation to the euro has been falling, and it's now the most negative in around five years. A stronger yuan could therefore signal further weakness in the single currency -- hurting the Chinese economy's competitiveness relative to Europe.

Still, while Chinese currency moves are focal point for Wall Street traders this week, there's a key factor limiting the day-to-day impact of a stronger yuan for Western companies. The currency's status as the preferred exchange rate for international transactions has been failing after devaluations in 2015 and 2019.

Those moves helped further erode the yuan's already limited use as an international currency. By comparison, the euro has gained market share and accounted for a third of all transactions in November 2019.