Foreign investors sold a record $18 billion in renminbi-denominated debt last month, with selling accelerating as rising US bond yields dampened the appeal of holding Chinese debt.
Offshore investors sold a net Rmb113 billion (US$17.6 billion) of onshore Chinese bonds in March, according to calculations by the Financial Times based on data from Hong Kong’s Bond Connect investment program. This pushed outflows to Rmb 193 billion over the last two months as concerns mounted over China’s economic growth prospects and the dwindling yield advantage of debt over US dollar-denominated bonds.
“These are by far the largest outflows since China began opening up its domestic bond market,” said Becky Liu, Standard Chartered’s head of China macro strategy, adding that foreign investors combined with net equity sales sold off a total of around $250 had Rmb234 billion in Chinese securities in the last two months. She said the bank expects “continued outflows” in the second quarter.
Overseas investors have for years turned to the Chinese bond market as a source of juicy fixed income returns, while western economies have embraced quantitative easing and record-low borrowing costs. That momentum is now being reversed as western central banks hike interest rates and China seeks to ease economic disruption with lockdowns to contain the worsening Covid-19 outbreaks.
Expectations of interest rate hikes by the Federal Reserve to fight rising inflation pushed the US 10-year Treasury yield to 2.9 percent this week, while expected easing by the People’s Bank of China pushed the Chinese 10-year bond yield down has held anchored at about 2.8 percent in recent sessions. US yields have not outperformed riskier Chinese government bond yields in 12 years.
The policy divergence is also hitting the Chinese currency, with the renminbi falling to its lowest level since October 2021 against the dollar on Wednesday.
Jason Pang, a senior portfolio manager at JPMorgan Asset Management in Hong Kong, said the recent selling has been spurred in part by global investors who are closing after a year in which the relative outperformance of Chinese bonds made it “quite necessary” for many investors keep taking profits to deliver better returns than the benchmark.
“I wouldn’t be surprised if we saw more profit taking [Chinese government bonds],” he added.
Investors and strategists said that although the renminbi bond yield advantage had come under pressure, payouts on Chinese bonds still offered a significant premium over their US counterparts when adjusted for inflation.
“The big, longer-term picture isn’t changing at all,” said Jean-Charles Sambor, head of emerging market debt at BNP Paribas Asset Management, adding that renminbi bonds still offered yields that were uncorrelated to those of other major economies. “For me, it’s a no-brainer that the diversification benefits remain extremely strong.”
StanChart’s Liu said that despite the recent sell-off, she expects the pace of outflows may have already peaked and that net inflows will return in the second half of the year. However, she added that the gap between Chinese and US bond yields could limit the options available to Beijing policymakers as they grapple with slowing growth.
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Despite a spate of severe and economically disruptive lockdowns to contain China’s worst Covid-19 outbreak in two years, the PBoC has remained cautious on its approach to stimulus, stopping short of dramatic policy easing that is pushing yields even lower could.
Aninda Mitra, Head of Asia Macro and Investment Strategy at BNY Mellon Investment Management, suggested that with US interest rates buoyant, the central bank may have become “cautious” about the sharp rise in interest rate differentials as it could trigger larger capital outflows from higher yields.
“The attraction of foreign investors to China’s bond market has arguably diminished,” he said, and pressure on capital accounts “is becoming a more plausible risk.”