Dim Sum Yield Premium Draws Funds to Asia’s Best Currency Rally
A record high yield premium for offshore yuan debt and Asia’s strongest currency rally are attracting investors back to Dim Sum bonds traded in Hong Kong.
The yield on three-year sovereign notes in the city was 45 basis points higher than that in mainland China at 3.69 percent on March 23, compared with an average discount of 118 basis points last year. The average overall offshore yield surged 85 basis points this year to an unprecedented 5.55 percent, a Deutsche Bank index shows. The offshore yuan delivered total returns of 1.6 percent this month, the best in Asia.
Bets against the yuan are falling out of fashion as policy makers quell speculation that they favor depreciation, which would widen record trade surpluses and undermine global acceptance of the currency. Premier Li Keqiang has said he will take policy action if needed to shore up the economy, as a preliminary gauge of manufacturing slumped to the weakest in 11 months. He has also committed to obtain reserve status for the yuan from the International Monetary Fund.
“It’s a good time to pick up Dim Sum bonds,” said Jason Liu, head of the investment department at Prudential Life Insurance of Taiwan, which has NT$112.6 billion ($3.6 billion) of assets. “The yuan will probably stay rangebound this year. Besides, further easing measures should help improve yuan liquidity, weighing down offshore yuan funding rates.”
Reasonable range
The exchange rate will be kept at a reasonable level as the yuan’s usage is promoted overseas, Premier Li said at an annual meeting of the country’s top legislature this month. China will increase capital-account convertibility and hopes the yuan will be included in the IMF’s Special Drawing Rights at a review later this year, he told the agency’s managing director Christine Lagarde in Beijing on March 23.
On March 3, when the yuan was trading close to the weak end of its 2 percent daily trading limit, People’s Bank of China Deputy Governor Yi Gang said there was no urgent need to adjust the range. Widening the band could risk a decline in the currency, which would spur capital outflows.
“The yuan can strengthen further for the time being,” analysts led by Paul Mackel, head of Asian currency research at HSBC Holdings, wrote in a March 23 research note. “The bout of yuan strength presents a window of opportunity for China to make further currency reform.”
Yuan, swap
The yuan fell 0.08 percent to 6.2101 a dollar as of 11:20 a.m. in Shanghai on Wednesday, China Foreign Exchange Trade System prices show. The currency in Hong Kong, which has traded at a discount to the onshore rate most days since September, rallied 1.3 percent last week to erase that gap. It fell 0.12 percent this week to 6.2109.
The offshore yuan market tightened last year on expanding channels to repatriate the currency onshore. Regulators approved 311.5 billion yuan of Renminbi Qualified Foreign Institutional Investor quotas as of February. The Shanghai-Hong Kong Stock Connect program also sucked up cash, with some 124.56 billion yuan of the 300 billion northbound quota used already.
The impact of these measures is waning on the offshore market amid monetary easing by the PBOC, which has cut both lending rates and reserve requirement ratios.
The five-year offshore yuan cross-currency swap rate, which investors pay to borrow the Chinese currency, fell to 4.05 percent from a record 4.37 percent on March 17. The overnight rate for renminbi on the Hong Kong interbank market, which hit a record 8.6 percent on Feb. 6, declined to 3.93 percent on Wednesday. That compares with an average 2.19 percent last year.
Funding costs
“As funding costs come lower, bond yields should follow,” Becky Liu, a Hong Kong-based rates strategist at Standard Chartered, said in a March 23 phone interview. “We believe cross currency swaps have peaked. We recommend investors pick up top-tier Dim Sum bonds at current levels.”
Securities issued by Chinese property companies as a whole have taken a hit recently as Kaisa Group Holdings narrowly avoided becoming the first Chinese developer to default on its US currency debt last month. Standard & Poor’s downgraded Shenzhen-based Kaisa after the developer missed coupon payments that were due March 18 and March 19.
“More government policies will be rolled out to bolster the real-estate sector and the macro economy,” said Yang Xi, a Beijing-based analyst at Citic Securities, the nation’s biggest listed brokerage. “The yuan has already reversed its weakening trend, and offshore liquidity will become better.”
Bloomberg
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