Bonds Jul 23

Foreign investment in China bonds rising by 40% pa

The Ministry of Finance said in late 2018 interest income obtained by foreign investors in China's bond market will be exempt from corporate tax and VAT until November 2021

Foreign investment in China bonds rising by 40% pa
Foreign investment in China's bond market has reached about $371 billion. Image: iStock. 

(ATF) With the coronavirus epidemic continuing to cause global instability, China's financial market has become something of a "safe haven" for international capital, which has increasingly been invested in Chinese bonds.

Even with the recent correction in the domestic bond market in recent months, the enthusiasm of foreign investors appears undaunted.

According to the monthly statistics of the China Bond Board and Shanghai Clearing House, in the second quarter of this year, net foreign holdings in China's bond market increased by about 250 billion yuan, to 2.6 trillion yuan (US$371 billion) overall.

At present, the balance of China's bond market is 108 trillion yuan, ranking second in the world. By the end of June this year, nearly 900 legal overseas entities had entered the interbank bond market, from more than 60 countries and regions around the world. And, the annual growth rate of foreign uptake has been close to 40% since 2017.

In an interview with the "Daily Economic News", Chang Zheng, head of the Oriental Jincheng International team, said that after the outbreak of the coronavirus, the Fed returned to zero interest rates, and the proportion of negative-yield national debt in the world has risen once again risen. But China’s monetary policy remains stable and flexible, and China’s treasury bond yields have obvious comparative advantages over the world’s major developed economies such as the United States, Japan, and Europe, and are more stable than other emerging economies in the world.

'Epidemic has boosted China's bond market'

Therefore, the characteristics of China's bond market value have become more prominent during the epidemic, and their attractiveness to global investors has increased.

"The current epidemic is still spreading globally, and financial markets trying to cling to risk aversion find it difficult to return to normal. The Chinese bond market will continue to be an important choice for international investors to allocate assets. In the short term, unless funds are largely withdrawn from emerging markets, foreign institutions will increase their holdings of Chinese bonds. It will continue," Chang Zheng told the paper.

At this year’s Lujiazui Forum, Pan Gongsheng, vice governor of the People’s Bank of China and director of the State Administration of Foreign Exchange, said that as China’s financial strength continues to increase, the yuan’s status as an international payment, pricing, transaction, and reserve currency continues to rise, and the yuan is deploying globally. The demand for assets has increased rapidly.

Pan Gongsheng said holdings of renminbi assets by international institutions had reached 6.4 trillion yuan and has an average annual growth rate of more than 20%. In fact, double that for holdings of yuan bonds in recent years.

In terms of the types of investment bonds, treasury bonds are still the main bond type favoured by overseas institutions. As of June this year, the scale of overseas institutional bond custody by China Bond is 2.2 trillion yuan, and its China bond custody balance is 1.5 trillion yuan, accounting for 68% of foreign bond holdings. The second preference is government financial bonds, with a trust balance of about 640 billion yuan, accounting for about 30%.

Longer-term bonds becoming more popular

Orient Securities fixed income analyst Chen Feiyun noted in a research report that, since 2019, the maturity of foreign debt holdings has been switched from short to medium, then medium to long-term. At present, bonds of 7-10 years are the most attractive and account for about 44% of monthly trading volume, followed by bonds with maturities of 3-5 years, which account for about 16% of monthly trading volume. The ratio of short-term holdings has dropped from 60% at the beginning of the year to around 34%.

Chang Zheng pointed out that since the beginning of this year, when the pandemic broke out, the international financial market has been in some turmoil, so investors have become more risk-averse.

At present, the spread of the epidemic in many overseas markets is accelerating, but the situation in China in terms of prevention and control appears to be gradually improving. The fact that the epidemic cycle is different at home and abroad, and the resilience of China's economy has been further recognised, has caused yuan bonds to become an option for global investors to diversify investment risks. They have become an important opportunity that is sought after by participants in overseas markets.

Chang Zheng said that after the outbreak, the Federal Reserve urgently cut its policy interest rate by 150 basis points to return to a zero interest-rate level, and the proportion of negative-yield national debt in the world has once again risen. But China’s monetary policy has remained stable and flexible. Its treasury bond yields have obvious relative advantages over the world’s major advanced economies. So, the characteristics of China’s bond market value have become more prominent.

Taking 10-year Treasury bonds as an example, the current 10-year Treasury bond yield in China is around 2.9%, while the 10-year US Treasury yield is only about 0.7%. The spread of 10-year Treasury bonds between China and the United States exceeds 200bps, which is at a historical high.

The bond market has become an important position for financial opening up.

It is worth mentioning that Chinese government bonds are favored by foreign investors not only because of their relatively high yields, but also the release of China’s bond market opening dividends. With the increasingly widespread recognition of international institutions, the pace of foreign capital entering the Chinese bond market has accelerated significantly.

Bond Connect

In July 2017, the "Bond Connect" was officially launched. Through the connection between the mainland and Hong Kong financial market infrastructure, international investors can access and invest in one point without changing the original transaction settlement system arrangements and method. All types of bonds are in the inter-bank bond market. Bond Connect offers original direct market access and the coexistence of multiple channels such as QFII, RQFII, and promotes further high-quality development of China’s bond market opening. As of June 2020, the number of Bond Connect foreign investors exceeded 2,000, an increase of approximately 14 times over July 2017; and the average daily transaction volume has reached 21.1 billion yuan.

Another bonus

In November 2018, foreign investors got another bonus as the Ministry of Finance issued a notice stating that from November 7, 2018 to November 6, 2021, bond interest income obtained by foreign institutions investing in the domestic bond market will be temporarily exempt from corporate income tax and value-added tax.

In February of this year, nine highly liquid Chinese government bonds were officially included in the JPMorgan Chase Global Emerging Markets Government Bond Index, and the financial market opened up further.

In May of this year, the People’s Bank of China and the State Administration of Foreign Exchange issued the “Regulations on the Management of Domestic Securities and Futures Investment Funds by Foreign Institutional Investors”, which clarified and simplified the management requirements for domestic securities and futures investment funds of foreign institutional investors, and further facilitated foreign investors’ participation in China’s finance markets. The measures included the removal of QFII and RQFII domestic securities investment quota management requirements, and the removal of the number of custodians; the procedures for remittance of funds have been greatly simplified, allowing qualified investors to independently choose the currency and timing of remittance.

Chang Zheng said that in the medium and long-term, as the domestic bond market continues to simplify management and facilitate operational procedures, the convenience for foreign investment in the market continues to increase, and the willingness of foreign institutional investors to allocate the domestic bond market is expected to continue to rise.

"As the world's second largest bond market, the proportion of foreign investment allocation in China is still significantly low. It is expected that as the Chinese bond market welcomes the expansion of overseas funds, not only the number of foreign institutional investors will grow steadily, but the types of investors will also become more diversified, thereby accelerating the opening up of the bond market and continuously improving the level of internationalisation," Chang Zheng said.