Kyle Bass Copycats Snap Up Bearish Hong Kong Dollar Options

(Bloomberg) -- On the surface, Kyle Bass’s highly leveraged all-or-nothing bet on a collapse of the Hong Kong dollar looks audacious.

The currency is near the strongest it can be and the city has sold billions of local dollars since April to stop it from strengthening any further. Another giant stock sale from Ant Group will increase demand for the Hong Kong dollar, helping underpin its strength for far longer than analysts had anticipated. The currency stayed strong even as some U.S. policy makers considered ways to undermine the peg.

Still, plans from the Dallas-based founder of Hayman Capital Management to start a bearish Hong Kong dollar fund have spurred copycat trades in the derivatives market. Some $3.57 billion worth of Hong Kong dollar options changed hands on Thursday -- the most since May -- the day after the U.S. unexpectedly ordered China to close its consulate in Houston.

More than half of those positions are betting on a slide to 7.85 -- the weakest the currency is technically allowed to trade.

Part of Bass’s premise is that concern over the city’s future as a global financial hub -- as well as its struggling economy -- will spark a shift out of Hong Kong dollars into other currencies, breaking the peg. The city’s capital markets have been at the center of the U.S.-China rivalry, which became increasingly tense after Beijing’s plans for a national security law were made known in May. Washington has since stripped away certain special privileges for Hong Kong, adding to the uncertainty.

The city’s officials have repeatedly said they’re confident the peg will hold. Financial Secretary Paul Chan said last month that China’s central bank could provide American dollars should the U.S. impose sanctions on the territory. The dollar peg is underpinned by about $440 billion of foreign-exchange reserves, which is more than two times the city’s money in circulation, according to Eddie Yue, chief executive of the Hong Kong Monetary Authority.

The Hong Kong dollar has been resilient throughout, trading Friday about 15 pips away from the strong end of its band at 7.7515 per greenback.

Still, quirks in the derivatives market mean that even if you think Bass’s bet is a long shot, it’s not expensive to copy him. A gauge of expected swings on Hong Kong dollar is near the lowest since 2018, reducing the cost of hedging.

It all means traders can buy cheap protection against wild moves in the Hong Kong dollar, while at the same time positioning themselves to win big if the peg eventually breaks.

©2020 Bloomberg L.P.