China's Yuan Has Fallen To A Level That Means 'Real Pain'

China's offshore yuan (CNH) exchange rate has fallen to 6.20 per dollar.

This comes days after policymakers announced that it would allow the yuan to swing more freely each day.

The yuan has only weakened since the announcement. As you can see in the chart to the left, its take increasing amounts of yuan to get a dollar.

6.20 is a particularly worrisome level for the $300 billion structured financial products market.

"For CNH, the 6.15-6.20 zone is critical for structured products, above which a topside move could become non-linear," warned Morgan Stanley's Geoffrey Kendrick in a note to clients on Sunday.

Take a glance at Kendrick's chart on the right. It illustrates an example of a payoff schedule for the parties involved in these structured products.

As long as the CNH stays between that 6.15-6.20 range, neither party is getting crushed.

But once you get to that 6.20 level, one party will have to start paying its counterparty.

In a March 14 note, Kendrick estimated there were around $150 billion worth of such contracts outstanding.

"Taking that as a base case, we can then estimate the size of potential losses to holders of these products if USD/CNH keeps trading higher," he wrote. "In round numbers, we estimate that for every 0.1 move in USD/CNH above the average EKI (which we have assumed here is 6.20), corporates would lose US$200 million per month. The real pain comes if USD/CNH stays above this level, as these losses would accrue every month until the contract expires. Given contracts are 24 months in tenor, this implies around US$4.8 billion in total losses for every 0.1 above the average EKI."

EKI is short for "European Knock-in," which Kendrick says is the range 6.15 and 6.20 CNH per dollar.

These are not small amounts of money being lost.