China’s bonds boom as investors face ‘asset famine’

By Thomson Reuters Mar 18, 2024 | 10:17 PM

SHANGHAI (Reuters) – A record-breaking rally in Chinese sovereign debt is hitting a fever pitch in another sign China’s financial system is low on confidence and overflowing with cash and bank deposits.

Yields at the longer end of China’s bond market have been crunched to record lows by the weight of available money, and bankers say savings bonds are selling out almost instantly to retail investors who queue up outside branches before dawn.

The moves are welcome for borrowers, especially the central government which is paying just 3% interest on 30-year debt.

But they also illustrate the fragility of economic expectations – because traders see further rate cuts ahead – and of confidence, given investors of all stripes are plunging into safe financial products instead of more productive assets.

Batches of savings bonds were “gone in seconds”, said a state banker in Shanghai, thanks to three-year rates of 2.38%, which are only marginally better than term deposit rates.

Thirty-year Chinese government bond yields are down nearly 40 basis points this year, hitting a record low of below 2.4% in March. They came within a whisker of dropping below 10-year yields, which also have hit 22-year troughs.

China has been trying for years to nudge money out of banks and into growth assets with measures such as rate cuts. But those efforts have been met with resistance as a downturn in real estate has sapped appetite for all but the safest investments.

One Shanghai bond brokerage trader described the situation as an “asset famine,” with very little else for financial institutions to buy while deposits soar and loan growth slides.

Both the trader and the banker requested anonymity as they are not authorised to speak publicly.

The bond trader noted that much of the demand at the longer end was from financial institutions looking for somewhere to park deposits that nobody wants to borrow. Data published last week showed lending growth at a record low 10.1% in February.

Chinese banks held a record 291 trillion yuan ($40 trillion) on deposit at the end of February, according to central bank data, and deposit growth is outpacing loans.

Foreign investors have been buyers too, but own less than 3% of the market and do not tend to drive price movements.

Analysts such as ANZ senior strategist Xing Zhaopeng said recent central bank market operations to drain cash from the banking system by declining to roll over policy loans showed authorities were aware of the cash logjam.

A net 94 billion yuan was withdrawn through a central bank’s bond instrument from the banking system in March – China’s first such move since 2022.

“The move echoed (wording in this year’s) annual government work report to ‘avoid idling funds stuck’ in the banking system,” said Xing, referring to a phrase last mentioned in 2020’s report.

China’s central bank also said this month it made a routine survey of rural lenders’ bond books to “guide… focus on their main responsibilities”, including rural areas and small businesses.

To be sure, the prices allow the central government to secure long-term funding at low cost, which it can use to benefit the country, and issuances are expected to steady the market.

Yet low rates complicate efforts to support the yuan and has analysts wary – if not yet worried – of a market that’s becoming inflated by so much money looking for a home.

“With long duration positions congested and curves flat, we are cautious near term,” said Ju Wang, head of greater China FX and rates strategy at BNP Paribas. “Medium-term, a correction in China bonds could offer opportunities to re-load duration longs as (the) monetary easing cycle is not over.”

($1 = 7.1981 Chinese yuan renminbi)

(Reporting by Reuters Shanghai Newsroom; Writing by Tom Westbrook. Editing by Gerry Doyle)