Bloomberg News

Top Dim Sum Fund Returns 22% With Road King Debt: China Credit

November 07, 2012

This year’s best-performing offshore yuan fixed-income fund bought the dollar debt of a highways operator and a cement maker as China stepped up infrastructure spending to counter a seven-quarter economic slowdown.

BOCHK RMB High Yield Bond Fund, run by the Hong Kong arm of China’s fourth-biggest bank, handed a 22 percent return to dollar investors as it bought notes issued by Road King Infrastructure Ltd. (1098) and China Shanshui Cement Group Ltd. The China Southern Dragon Dynamic Fund - RMB High Yield Bond Fund, run by CSOP Asset Management Ltd., ranked second with a 18 percent gain, according to data compiled by Bloomberg. Among rivals restricted to yuan-denominated notes, Guangfa RMB Focus Fund performed best with a 13 percent return.

“We have turned neutral or even slightly overweight on industrial and infrastructure sectors as the government is adding stimulus, most evidently by an acceleration in railway investment,” Ken Hu, who manages the 455 million yuan ($73 million) fund as chief investment officer for fixed income at the Bank of China Ltd. vehicle, said in a Nov. 5 phone interview.

Premier Wen Jiabao’s government approved infrastructure projects worth close to 1 trillion yuan in the first eight months of 2012, supporting expansion in the world’s second- biggest economy. The best-performing fund managers were those allowed to buy the dollar-denominated debt of Chinese companies as global monetary easing spurred the flow of capital into emerging-market assets and yuan appreciation stalled.

Dollar Bonds

Dim Sum bonds accounted for 9 percent of the Bank of China fund at the end of October, down from 12 percent in July, according to the investment vehicle’s data. Dollar notes made up 89 percent of Hu’s holdings and were hedged by taking positions that profit from yuan gains in the currency-forwards market.

Chinese dollar debt rallied 21.5 percent this year, according to a JPMorgan index, and is still yielding more than Dim Sum securities. Yuan-denominated bonds in Hong Kong returned 5.9 percent, an index compiled by Bank of China showed.

The average weighted yield of dollar notes included in the JPMorgan gauge was 5.02 percent yesterday, the lowest level in data going back to October 2005. It reached a record 13.74 percent in October 2008 as global credit markets froze following the collapse of Lehman Brothers Holdings Inc. Dim Sum bonds’ average yield declined 108 basis points, or 1.08 percentage points, this year to 4.87 percent.

“When it comes to high-yielders, the Chinese dollar bonds are still more attractive than those in yuan,” said Hu. “As the economy slows, companies are no longer expanding aggressively. That means stronger cash flows, and it’s safer for bond investors.”

‘Interesting Opportunities’

The yield on Road King’s dollar bonds due 2017 was 8.3 percent yesterday, compared with the 9.875 percent coupon offered in its September sale, according to data compiled by Bloomberg. The price of the debt rose 6.3 percent since its debut. The highways builder’s Dim Sum bonds maturing in 2014 yielded 6 percent.

Shanshui Cement’s dollar bonds due 2017 climbed 9 percent since their April debut, according to data compiled by Bloomberg. The debt yielded 7.8 percent yesterday, less than the 10.5 percent coupon on the notes. The company’s yuan-denominated bonds due 2014 yielded 6.7 percent, having been sold with a 6.5 percent coupon.

“Given the improving outlook for infrastructure or real- estate investments, some selective industrial names may present interesting opportunities,” said Kai He, the Hong Kong-based fund manager of CSOP’s vehicle. He prefers corporate debt over sovereign, and high-yield over high-grade “because tail risks have been largely reduced, interest rates are low and are unlikely to drop further.”

Railway Projects

China’s spending on railways may jump 96 percent from a year ago to 224 billion yuan this quarter should the government want to meet its annual investment target of 516 billion yuan, Yang Tao and Xia Tian, analysts at Citic Securities Co., wrote in a Nov. 1 report. The country added 13 rail infrastructure projects to this year’s construction investment plans, boosting the number to 22, Economic Information Daily reported Oct. 23.

A once-a-decade leadership transition in China, which will start today with the Communist Party’s 18th Congress, is fueling bets for more stimulus. Xi Jinping, currently the vice president, is almost certain to become the party general secretary at the congress and then the nation’s president in March.

Possible Stimulus

“China’s new government could implement a large stimulus, and an area such as infrastructure could be quickly targeted on a broad scale,” said Michelle Gibley, director of international research at San Francisco-based Charles Schwab Corp. “However, we caution investors, as we believe speculative excesses could make China’s economic recovery more difficult and slower than many expect, presenting headwinds to a sustained rally.”

Five-year credit-default swaps protecting China’s sovereign debt dropped five basis points this week to 62 in New York, the lowest level since November 2010, according to data provider CMA, which is owned by McGraw-Hill Cos. and compiles prices quoted by dealers in the privately negotiated market. The contracts pay the buyer face value in exchange for the underlying securities or the cash equivalent if a government or company fails to adhere to its debt agreement.

The People’s Bank of China has held its benchmark lending rate at 6 percent since cutting it to that level in July. The central bank has also kept the reserve ratio for the biggest banks at 20 percent since May. The Federal Reserve’s third round of so-called quantitative easing could lead to higher price levels in China, according to Rainy Yuan, a Shanghai-based analyst at Masterlink Securities Corp.

Inflation, Growth

Data tomorrow is forecast to show inflation held at 1.9 percent in October, based on the median estimate in a Bloomberg survey of economists. July’s 1.8 percent increase in consumer prices was the smallest since January 2010, official figures show. The yield on China’s 10-year bonds has risen 13 basis points to 3.58 percent so far this quarter, according to data compiled by Bloomberg.

The economy expanded 7.4 percent in the third quarter, the slowest pace in three years, and is forecast to grow 7.7 percent in the three months through December, according to the median estimate in Bloomberg survey of economists. An official Purchasing Managers’ Index was 50.2 in October, suggesting manufacturing expanded for the first time in three months.

On the back of slower growth, top Dim Sum bond fund managers see limited room for yuan gains this year. The currency fell 0.1 percent versus the greenback so far in November, trimming this year’s advance to 0.8 percent. That compares with a 4.7 percent increase in 2011. The yuan rose 0.01 percent to 6.2429 per dollar in Shanghai today, touching the top of its permitted trading range.

“China’s economy has shown signs of bottoming out, but we are probably not going to see a strong pickup, instead a gradual but more stable recovery is likely,” said CSOP’s He. “The current yuan level is close to equilibrium. Therefore, we are not taking an active currency position.”

To contact the reporter on this story: Fion Li in Hong Kong at fli59@bloomberg.net

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


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