China 'dim sum' bonds mark record quarter in Hong Kong

HONG KONG, April 8 Mon Apr 7, 2014 10:48pm EDT

HONG KONG, April 8 (Reuters) - The offshore yuan market for Chinese debt in Hong Kong posted a record quarter in terms of volumes sold, as investors shrugged off the impact of a weak and volatile currency and mounting concerns of debt defaults in the world's second-largest economy.

A wave of refinancing due to maturing debt in the offshore market for Chinese debt denominated in yuan - known as the "dim sum" market - has failed to deter foreign investors who have lapped up these bonds thanks to their sizeable returns.

Dim sum debt sold in the quarter that ended in March amounted to 125 billion yuan ($20 billion), the highest quarterly level on record, according to Thomson Reuters data. That compared with 53 billion yuan for the December quarter.

The record quarter came despite growing worries over the outlook for the Chinese economy, as the renminbi lost 2.5 percent against the dollar and amid investor jitters over mainland companies' ability to repay debt.

"The dim sum bond primary market is likely to continue flourishing in the second quarter as funding costs are cheaper in Hong Kong," said Raymond Gui, a senior portfolio manager at Income Partners who manages $350 million in debt. "Refinancing pressure is still heavy in the dim sum market."

While the renminbi's drop reverberated in global currency markets, bond indexes tied to the performance of debt in the Chinese currency gained in that period in yuan terms thanks to rich interest payments compared with other bonds.

Those gains may accelerate further as markets expect the yuan to stabilise or even gain from current levels. A Reuters poll expects the yuan to rise to 6 against the dollar in 12 months compared with Monday's close of 6.2123.

Developer Greentown Real Estate, which sold a 2.5 billion yuan dim sum bond last May, said it likes offshore yuan bonds, given lower funding costs as investors lack investment channels and are therefore willing to accept lower yields.

"Many investors we talked to still have a lot of money, and they're still interested to invest, but they're just watching the market now because of the recent negative sentiment and stock market volatility," Greentown CFO Simon Fung said.

Investors are also relieved about the drop in the yuan as it means the yield pick-up on these bonds is enhanced in currency terms from a U.S. dollar investor's perspective.

Money managers buying yuan debt can lock in a yield pick-up of 80-160 basis points by swapping offshore yuan to the U.S. dollar without taking any currency risk through currency derivatives markets, according to Becky Liu, a senior strategist at Standard Chartered Bank in Hong Kong.

Three-year cross currency swap rates between the dollar and the yuan are not far from a one-year low of 1.36 percent on Tuesday. That tenor is used as a benchmark as most debt issuance is clustered in that maturity bucket.

A sticky investor base has also helped. About 90 percent of dim sum market funds come from Asian investors who are a more "buy and hold" type of investor with the shorter tenor of these bonds playing a part, said Steve Wang, head of fixed income research at Bank of China International in Hong Kong.

To be sure, there are some funds that are adopting a cautious stance.

Gordon Tsui, deputy chief investment officer at Hang Seng Investment Management in Hong Kong, who manages a 1.33 billion yuan bond fund, said he has adopted a "conservative" approach since the start of the year, keeping an overweight position in bonds with maturities of less than one year.

"We consider that dim sum bonds issued by multinational companies are still attractive in valuation on an asset-swapped basis versus their dollar or euro benchmark bonds," he said. (Additional reporting by Clare Jim and Umesh Desai; Editing by Saikat Chatterjee and Chris Gallagher)