China flags FX reserve risk from Fannie, Freddie

BEIJING, July 16 (Reuters) - The troubles of Fannie Mae and Freddie Mac pose new risks to China's $1.8 trillion foreign exchange stockpile, adding urgency to Beijing's goal of diversifying its reserves, a researcher at a top Chinese think tank said.

The emergency rescue of the top U.S. mortgage finance companies showed that, along with a falling dollar, bonds and treasuries could also shed value, eating into China's forex reserves, Zhang Ming, a Chinese Academy of Social Sciences researcher, said in a report obtained by Reuters.

China has never disclosed how it manages its reserves but it is widely believed to have invested predominantly in treasuries with considerable holdings of dollar-denominated corporate bonds as well.

Zhang said Fannie FNM.N and Freddie FRE.N may have to increase coupon payments in future bond issues, thus reducing the book value of outstanding bonds held by the Chinese government.

In fact, holders of the mortgage giants' bonds were comforted by Freddie's $3 billion debt sale on Monday, which drew stronger demand than a similar one a week earlier.

The auction came after the U.S. government announced sweeping measures, including expanded credit lines, to restore market confidence after fears about capitalisation at Freddie and Fannie drove their shares to 17-year lows.

Any book value loss in Freddie and Fannie bonds would be "the tip of the iceberg", Zhang said.

If the situation worsens, Washington may have to spend lots of capital to rescue them, which in turn could force the U.S. government to increase coupons in future treasury issuances, he said.

That would hit the value of outstanding treasuries, further weighing on the value of China's forex reserves, Zhang said.

He said diversifying reserves, the world's biggest at more than $1.8 trillion, was an increasingly pressing, yet challenging, task for Chinese authorities.

Xia Bin, an economist with the Development Research Centre, a think-tank under China's cabinet, said it was hard to gauge how the government would manage its reserve investments because of a lack of transparency.

"But we should have faith that the relevant departments are clever," he said. (Reporting by Zhou Xin; Editing by Simon Rabinovitch and Keiron Henderson)