The newly approved China-Hong Kong Bond Connect will not appeal to big investors in renminbi debt as an alternative to other access channels, according to industry experts.
The mutual market access link is set to divide the market between large players – such as insurers, pensions and sovereign wealth funds – and smaller investors, such as wealth managers and hedge funds, said Barnaby Nelson, head of investors and intermediaries for Northeast Asia at Standard Chartered.
Moreover, there are outstanding questions to be answered before Bond Connect goes live – for which no date has been set, despite official approval being given by the People’s Bank of China (PBoC) and the Hong Kong Monetary Authority on Tuesday. The scheme has been in the works since its equity equivalent, Stock Connect, went live in November 2014.
Bond Connect downsides
Nelson argued that large institutions would see the new scheme as inferior to other channels, which include direct CIBM access, the qualified foreign institutional investor (QFII) scheme and its renminbi equivalent (RQFII).
There are number of reasons for this, said Nelson. Bond Connect has no onshore renminbi (CNY) exposure, so investors are exposed to short-term spikes in Hong Kong offshore renminbi (CNH) spreads; no access to CNY onshore hedging using currency derivatives; and no access to the China government bond primary market or bond auctions.
What’s more, spreads are likely to be thinner onshore via Bond Connect, because trading is expected to be on an automated system with full bid/ask transparency.
Hence the trading link will appeal far more to smaller investors who want quick access to Chinese bonds, said Nelson, and they will be able to use a broker or custodian in Hong Kong to that end. Larger players are likely already using other channels to trade renminbi debt in any case, he noted.
David Li, Hong Kong chief executive of Caceis, the asset servicing arm of French bank Credit Agricole, agreed. Bond Connect seems to offer an easier process for accessing the CIBM, he told AsianInvestor, so it could appeal to investors who are not using the existing channels.
However, Nelson said potential users of the link had raised questions around which types of investors are eligible to participate; the onboarding process and know-your-customer (KYC) requirements; and details of account structures.
“We expect more clarity by the end of next week,” he noted, but did not say why.
Indeed, Bond Connect raises more issues than its equity equivalent, said Mark Austen, chief executive of the Asia Securities Industry & Financial Markets Association (Asifma), at Thomson Reuters' buy-side summit in Hong Kong yesterday.
For example, the Hong Kong Stock Exchange – which will operate the Hong Kong side of the link – has no bond platform. What’s more, investors face KYC requirements when it comes to bonds but not equities, he added, echoing a point made by Nelson.
Hence international investors are concerned whether the system will run smoothly and will be expensive, noted Austen. Another concern of investors is how the Bond Connect will work together with the existing channels to provide debt market access, he added.
Northbound trading – investment into Chinese bonds – will start first and may not be subject to a quota, said Chinese investment bank CICC in a report. Southbound trading will be explored in due course.
A good time for launch?
The approval of Bond Connect looks to have come at a good time, as onshore bond yields have moved meaningfully higher recently, said Gregory Suen, Hong Kong-based investment director of fixed income at HSBC Global Asset Management.
Bond yields move inversely to their prices, suggesting now may be a good entry point, given that Chinese economic fundamentals do not justify significantly higher interest rates, Suen said in a written commentary, noting that both inflation and economic growth are stable.
The 10-year Chinese government bond yield has risen to 3.645% as of May 17 from 3.303% on April 2, according to Investing.com.
As of end March, China’s bond market stood at Rmb65.9 trillion ($9.57 trillion). There are 473 overseas investors in the market, with outstanding assets of around Rmb800 billion, according to PBoC data.