Bloomberg News

Yuan Drop Spurs Record Slide in Dim Sum Bonds: China Credit

September 29, 2011

Sept. 29 (Bloomberg) -- Yuan-denominated bonds in Hong Kong are headed for a record monthly loss, erasing gains for the year, as a worsening outlook for the global economy fuels concern China will slow the pace of its currency’s appreciation.

So-called dim sum bonds have fallen 4 percent since the end of August, pushing average yields 1.05 percentage point higher to 5.85 percent, according to the BOCHK Offshore RMB Bond Index. Globally, emerging-market corporate debt lost 3.8 percent and U.S. Treasuries gained 1.1 percent, Bank of America Merrill Lynch indexes show. Twelve-month yuan forwards traded within 0.1 percent 0.1 percent of the onshore spot rate today, compared with a 1.6 percent premium at the start of the month.

A faltering global recovery is curbing the outlook for exports and growth in China, the world’s second-largest economy, at a time when concern is mounting that the nation’s property developers and local governments will struggle to pay debts. In addition to a worsening credit outlook, investors in dim sum bonds are getting hurt as a rallying dollar prompts Chinese policy makers to check yuan appreciation.

“The market is slowly shifting from a focus on the currency play to a better appreciation of the inherent credit risks in some of the issuers,” said Neeraj Seth, the Singapore- based head of Asian credit at BlackRock Inc., which manages $1.2 trillion of fixed-income assets globally. “I expect this shift to drive improved risk-reward dynamics for investors.”

Yield Gap

The average yield on China’s sovereign yuan-denominated debt in Hong Kong is 0.73 percent for maturities of one to three years, based on the BOCHK Offshore RMB Bond Index. Three-year bonds in Shanghai yield 3.78 percent, Chinabond data show. The nations’ inflation rate was 6.2 percent in August, down from a three-year high of 6.5 percent the previous month.

The yuan has weakened 0.1 percent in Shanghai since the middle of August, a period in which the greenback gained against 15 of 16 major currencies tracked by Bloomberg. The yuan has dropped 0.3 percent to 6.3970 per dollar in September as of 3:09 p.m. local time, poised for its first monthly loss since January, according to the China Foreign Exchange Trade System.

Currency appreciation was put on hold for almost two years from July 2008, halting a 21 percent advance in the previous three years, as the global financial crisis hurt demand for China’s exports. The outlook for the world economy is “not optimistic,” Zhang Ping, head of the National Development and Reform Commission, said yesterday.

The yuan has strengthened 6.7 percent since its de facto peg was ended in June 2010 and the People’s Bank of China set its daily reference rate at a record high of 6.3623 per dollar yesterday. Stronger fixings are bolstering the yuan in Hong Kong, where the currency gained 0.6 percent in the past four days to 6.4700 after a 2.1 percent slide last week that was the biggest loss since offshore trading commenced in the city in July 2010.

Offshore Yuan

“There were quite a number of stop-loss orders last week in the offshore yuan market on macro concerns,” said Nathan Chow, an economist in Hong Kong at DBS Group Holdings Ltd. “The dim sum bonds are largely foreign-exchange plays. The sell-off in offshore yuan has dragged down the bonds’ performance.”

The Deutsche Bank Offshore Renminbi Bond Index has declined 1.1 percent so far this month, poised for the biggest loss since it was introduced at the start of 2011. The HSBC Offshore Renminbi Bond Index slid 0.8 percent, the worst performance since June. Both indexes, along with the BOCHK gauge, are headed the a fourth monthly decline.

“There’s room for dim sum bond yields to rise if appreciation expectations continue to dwindle,” said Steve Wang, the head of fixed-income research in Hong Kong at BOCI Securities, a unit of Bank of China Ltd. “Sentiment remains fragile and volatile.”

Forecasts Cut

The International Monetary Fund cut its 2011 and 2012 growth forecasts last week for the world economy to 4 percent, from 4.3 percent and 4.5 percent, respectively. The Washington- based lender’s 2012 projection for China was lowered to 9 percent from 9.5 percent.

The cost of insuring Chinese sovereign bonds against default more than doubled this quarter. Five-year credit-default swaps on the notes jumped 19 basis points to 173 basis points yesterday, the highest level since March 2009, according to data provider CMA, which is owned by CME Group Inc. and compiles prices quoted by dealers in the privately negotiated market. The contracts traded at 84 basis points at the end of June.

The yield on China’s 2.48 percent dim sum bonds due in December 2020 fell one basis point, or 0.01 percentage point, this month to 2.35 percent, based on Royal Bank of Scotland Group Plc prices. In the onshore market, which global investors are restricted from investing in, the yield on China’s 10-year notes declined 18 basis points to 3.92 percent, according to Chinabond data.

Inflation Fight

A more flexible exchange rate would help China slow growth to a more sustainable pace and bring inflation down, Bank of Canada Senior Deputy Governor Tiff Macklem said on Sept. 27 in Vancouver. The government’s top priority will continue to be stabilizing prices, China Central Television reported yesterday, citing Vice Premier Li Keqiang.

The yuan will be “fully convertible” in five years should market reforms go smoothly, Li Daokui, an adviser to the People’s Bank of China, said Sept. 25 in Washington. The currency will strengthen 5.6 percent to 6.06 per dollar by the end of 2012, according to the median estimate of 19 analysts surveyed by Bloomberg.

“Yuan appreciation expectations remain intact,” said Becky Liu, a Hong Kong-based strategist at HSBC Holdings Plc, the top underwriter of the securities this year. “Dim sum bonds yield may trend up but the move will not be massive.”

--Editors: James Regan, Emma O’Brien

To contact the reporters on this story: Fion Li in Hong Kong at fli59@bloomberg.net; Lilian Karunungan in Singapore at lkarunungan@bloomberg.net

To contact the editor responsible for this story: James Regan at jregan19@bloomberg.net


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