May 22, 2014 / 7:25 AM / 4 years ago

CNH Tracker-China's debt yields converge slowly, even amid FX volatility

By Saikat Chatterjee
    HONG KONG, May 22 (Reuters) - The gap between China onshore
and offshore bond rates is converging to the delight of fund
managers, and probably the government, as it signals a deepening
of markets for Chinese assets and the yuan.
    More alignment between the two markets shows that the
offshore market is not just being driven by FX speculation and
will help toward internationalisation of the Chinese currency.  
    Money managers at the annual auction of China's ministry of
finance bond sale on Wednesday found that the gap between the
two debt markets that had existed for years had at last begun to
shrink, and in some parts of the yield curve, even disappear.
    Investors have long complained about the structural
deficiencies in the offshore yuan bond market, which have always
forced them to buy Chinese debt outside the mainland at costlier
prices compared with onshore.
    China's debt market is the third largest in the world after
the United States and Japan and is poised to expand along with
demand for Chinese assets as the country opens its financial
    While that gap narrowed to some extent in recent months as
China gradually allowed access to foreign investors to its
interbank bond market via quotas, the small size of these
channels and a near-decade long currency rally meant yields on
offshore debt were usually below onshore bonds.
    This year's unexpected weakness and volatility in the
Chinese currency, which has fallen 3 percent against the dollar
so far this year and is among the leading losers in the emerging
market universe, has accelerated this convergence trend.
    Still, the renminbi's volatility and weakness failed to
deter investors at China's ministry of finance bond sale where
it sold the first of a 28 billion yuan ($4.5 billion)
dual-tranche bond.
    The first tranche was a 14 billion yuan six-part transaction
sold to institutions on Wednesday with seven central banks and
monetary authorities among the investors.
    The 7 billion yuan 3-year tranche was priced to yield 2.53
percent, the 4 billion yuan 5-year tranche 3.25 percent, and the
1 billion yuan 7-year tranche 3.8 percent.
    On longer tenors, the one billion yuan 10-year tranche was
priced to yield 4 percent, the 500 million yuan 15-year tranche
4.29 percent and the 500 million yuan 20-year tranche 4.5
    Demand was robust with the 2.99 times overall coverage ratio
for the transaction higher than the 2.59 times ratio for the
ministry's offering last November.  
    This was despite being the ministry's biggest debt offering
in the last five years and some houses such as HSBC are
predicting a record supply of dim sum debt this year.
    Paula Chan, senior portfolio manager at Manulife Asset
Management in Asia, said the currency's weakness has raised the
awareness among investors to view offshore yuan bonds as a
credit class rather than a vehicle for betting on the currency.
    "Many of our institutional clients are looking to do more 
on the offshore yuan bond as an investment option and the recent
trend in more issuance of rated paper is a healthy sign," she
said at an RMB conference hosted by the Hong Kong Stock
    The demand for more ratings has led to investors allocating
credit risk premium in line with the mainland bond markets,
driving this convergence between the offshore and onshore debt.
    Wednesday's auction cut-off in the longer tenors was broadly
in line with the secondary market yields on the mainland while
shorter-dated debt was still bought at a premium, indicating
that convergence had still some way to go.
    That lack of convergence on the shorter tenors exist because
investors cannot freely access both the offshore and the onshore
bond markets and shorter-dated instruments are still typically
used as a bet on currency gains by many investors.
    For example, the gap between the cut-off yields on the 10-
year and the 15-year sector was an average five basis points
compared with a whopping 94 basis point average gap on the two- 
and three-year tranche, according to Thomson Reuters data. 
    * Deutsche Asset & Wealth Management and Harvest Global
Management have teamed up to sell a first small cap investment
product to be launched under China's renminbi qualified
institutional investment programme. The product will track the
performance of an index of Chinese companies, each with a market
cap averaging $1.2 billion.
    * Chinese asset management firm E Fund Management (Hong
Kong) said it has tied up with London-based ETF Securities to
launch an exchange traded fund (ETF) to list on three European
    * Tracking the MSCI China A Index and with a quota of 2
billion yuan ($320.9 million), the ETF listed on the London
Stock Exchange, Deutsche Boerse and NYSE Euronext Amsterdam on
Monday. It is the first such fund to list in three European
stock exchanges simultaneously under the Renminbi Qualified
Foreign Institutional Investor scheme.

     China's ministry of finance annual bond sale is a
much-awaited event in the offshore market as authorities usually
use the occasion to inject some new reform into the market. Past
years have seen longer tranches, portions set aside for foreign
central banks and even tranches aimed at retail investors.     
CNH Tracker-
China E fund lists ETF on 3 European Exchanges targeting China
More stories about the CNH market                 
Daily onshore yuan reports                        
Daily China money market reports                  
Offshore yuan rate    Onshore yuan rate  
Offshore yuan dealt Onshore yuan on CFETS 
($1 = 6.2337 Chinese yuan)

 (Additional reporting by Nethelie Wong at IFR; Editing by
Jacqueline Wong)
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