Debt (Page 8)

Xi Jinping, the president of China, is competing with much success to convert stock bears to bulls. However, China has the same issue with foolish joy pushing long-term yields very low in the bond industry.

Officials are now trying to control the third-largest federal loan market in the world. On Monday, prices tumbled as the People’s Bank of China ( PBOC ) intervened assertively in the market. It was the worst moment in 17 times for China’s 10-year government prospects, sending yields up 4 base points.

At the same time as Xi favors a stable-to-firmer trade price, bond prices have recently fallen. The issue with Xi and the PBOC is that bond bull claim that the rally is supported by basics like negative forces and slowing growth, and that it still has room to grow.

Beijing’s regulators have constantly aimed to increase the volume of immediate funding. When combined with bonds and stocks, it made up only 31 % of the cultural finance overall last month, with bank loans accounting for the rest.

In the US, by contrast, the number is more than 70 %. China’s Communist Party intends to sell more long-dated sovereign bonds in order to aid efforts to accelerate progress in its US$ 17 trillion market.

PBOC Governor Pan Gongsheng issued a warning about bubble problems as wobbly stock prices flooded into bonds and walls of money flowed from weak stocks in recent weeks.

In July, flows from Chinese securities “are largely explained by the lingering problems that investors see in the Foreign economy”, said Jonathan&nbsp, Fortun, an analyst at the Institute of International Economics.

It’s not all that surprising that Asia’s largest economy is experiencing significant domestic funding withdrawals. China’s direct investment liabilities, a balance of payments barometer of incoming foreign investment, fell by$ 14.8 billion in the second quarter year&nbsp, on year, only the second time the figure has turned negative, according to Bloomberg.

The first-half of 2024 saw a decrease of$ 5 billion, which would be the first net outflows since 1990. As a result of trade tensions between the US and Europe, China’s possess additional investment is declining while these diminishing capital flows are occurring.

All of this has resulted in Pan’s PBOC stepping up efforts to combat the friendship cows. The problem, though, is that the merchants testing Beijing are increasingly looking like so-called “bond police”, or activist investors who often take matters into their own hands.

Pan’s crew is about to discover what James Carville had warned the world about 30 years earlier. In 1994, Carville was a planner for US President Bill Clinton and is best known for his “it’s the economy, idiotic” phrase. That year, Carville made another popular study: that he’d like to be reincarnated as the&nbsp, bond&nbsp, business because” You you scare everybody”, he quipped.

The framework was balanced-budget conversations in Washington. Back then, tie investors were sensitive to the slightest tilt in Washington’s fiscal path. Carville’s reference to the influence of relationship vigilantes is now the issue for China as continent assets are being priced by traders.

A “hopeful flip” is starting to appear about what the PBOC is doing, according to Bill Bishop, who writes the Sinocism email. The goal may be to stress organizations to reduce their exposure before a more immediate fiscal stimulus package that would raise provides. However, the desire to invest in these bonds does not indicate assurance in the economy or the prospects for different asset classes.

Officials in China’s Jiangxi province advised commercial banks this week against paying back their government bond purchases. It’s daring to encourage institutions to rely on trades in a bid to lower risk.

The issue is that this could undermine Xi’s slow economic growth. Trust in Chinese bonds was decline even further if counterparties in relationship trades worry that further transactions might go wrong.

Very often in recent years, Xi’s authorities intervened in investment and foreign exchange trading, turning off international money managers. It’s not surprising that foreign transactions are dumping money into China’s economy in unprecedented amounts as a result.

Since April, the PBOC has frequently warned the business about price risks, according to Becky Liu, mind of Standard Chartered’s China macro strategy. ” This time, they want to take a strong enough message to the market, to greater recognize their’ comfort’ level of long-dated bonds, to minimize potential theoretical positions”.

Pan even cited the Silicon Valley Bank collapse in the US in early 2023 in a June press release. The concern is that Chinese regional banks may become alarmed by bond yield movements that are unpredictable.

The SVB in the United States has taught us that the central bank needs to monitor and evaluate the state of the financial market from a macro-prudential perspective, Pan said. ” At the moment, we must pay close attention to the maturity mismatch and interest rate risks that come with the large holdings of medium and long-term bonds by some non-bank entities.”

Entities in potential harm’s way include insurance companies, investment funds and other financial firms. That’s particularly the case as China flashes some Japan-like warning signs.

” The property woes are causing the weak credit demand.” In consequence, banks are forced to purchase more bonds because the interbank market is where money is trapped, according to Larry Hu, chief China economist for Macquarie Group.

Just as in the case of Japan in the 1990s, says Ken Cheung, currency strategist at Mizuho Securities, low government bond yields can do more harm than good to an economy.

At least four Chinese brokerages put new restrictions on domestic government bond trading earlier this week. One even went so far as to halt dealing with certain maturities. This likely makes the threat of additional intervention” the main factor driving yields higher”

For now, the financial equivalent of” the sword of Damocles is falling”, says Tan Yiming, analyst at Minsheng Securities. Tan points out that “while the scale of any selloff&nbsp, in China&nbsp, bonds may not be substantial in the medium and long term due to the fragile growth momentum in China, chasing duration returns in China does not seem appropriate in our opinion.”

But risks abound going forward. With this so-called “asset famine” environment where high-yielding assets are in short supply persisting,” the&nbsp, bond&nbsp, bull market remains alive”, Tan says.

The concern for Xi and Pan is that the yuan would fall if the Chinese yields dropped even further. That could increase the risk of default for large property developers as they struggle to make payments on offshore bonds. Before the November 5 presidential election, where China has been a punching bag for both parties on the campaign trail, it may enrage US politicians.

Of course, China is n’t alone in fretting about bond vigilantes. The Bank of Japan is tussling with traders in Tokyo, which causes the yen to rise more quickly than Tokyo wants.

Meanwhile, the US’s record-breaking national debt, which is up to$ 35 trillion at a time of severe political dysfunction, could stoke the appetite of speculators. &nbsp,

The concern is that bond vigilantes will make a comeback in a troubled time rather than use deficit spending, according to analyst Tan Kai Xian of Gavekal Research. Geopolitical tensions and attempts to “waffear the dollar,” which are making non-US allies consider diversifying away from Treasuries, have increased this risk.

China’s difficulties would be less somber if its capital markets were prepared for the world’s prime time. To build trust among global investors, Team Xi must accelerate moves to improve liquidity.

It needs to develop new hedging tools, reform a sizable and opaque state sector, create a top-notch credit-rating system, and increase transparency to lessen risk and facilitate a more advantageous allocation of capital. These and other actions are essential to boosting the yuan’s reputation as a leading currency in trade and finance.

Some of China’s largest state banks recently received advice from regulators to gather more information about the owners of sovereign notes. The idea is to tighten the leash on speculators. Officers are meeting with financial institutions at the PBOC’s branch in Shanghai to discuss bond market risks.

According to Citigroup economist Xiangrong Yu,” the PBOC’s concerns about financial risks are valid.” ” Whether its moves are sufficient to lift the long-end yield appears uncertain”.

Fundamentals may at this point support the PBOC’s desire to see lower Chinese yields. According to Pictet Asset Management’s analysts,” the lack of low-volatility investment opportunities should make Chinese government bond investments attractive for many investors, especially at a time when the country’s stock market is still under pressure and the economy recovers only slowly.”

It implies that more than a lot of people think, authorities may have a harder time taming the market. &nbsp, Though heady demand for China’s government bonds dovetails with Beijing’s long-term agenda, it’s colliding with PBOC efforts to support the yuan.

Overall, the recent flattening of the yield curve has hampered Pan’s policy flexibility, which has fueled renewed rumors that more monetary easing is on the horizon. This explains why the PBOC’s tug-of-war with bond vigilantes is only just beginning, and why China wo n’t have a chance to win.

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As global investors dump US and Japanese stocks, China’s beaten-down markets are suddenly looking more attractive.

The debate over whether China is “uninvestable” has plagued Xi Jinping’s government since late 2020. That was back when Xi’s Communist Party cracked down on tech platforms, starting with Jack Ma’s Alibaba Group.

It hardly helped that Xi’s draconian Covid-19 lockdowns drove China’s growth into the red. Or that Xi’s party was slow to add fresh stimulus to Asia’s biggest economy when it arguably needed it most.

Now, China has a unique opportunity to shine as a bastion of stability as the US and Japanese economies face fast-mounting challenges.

US employment growth is slowing, spooking global punters who had grown used to the economy adding 200,000-plus new jobs per month. The US Federal Reserve, meanwhile, has been slow to cut interest rates as inflation has remained stubbornly close to 3%.

Adding to the drama is extreme political polarization at a moment when Americans prepare to pick a new president on November 5. This, against the backdrop of the US national debt topping US$35 trillion.

In Tokyo, markets are in abject trauma following the Bank of Japan’s July 31 rate hike. On Monday, the Nikkei Stock Average fell the most since “Black Monday” in 1987. Though stock prices later stabilized, fears of additional BOJ rate hikes have global investors on edge.

A big worry is the “yen-carry trade” blowing up. Since 1999, when the BOJ first cut rates to zero, investors everywhere have been borrowing cheaply in yen and using those funds to bet on higher-yielding assets around the globe.

This explains why sudden moves in the yen can savage asset markets in New York, London, Dubai, Seoul and Shanghai. And raise questions about hedge funds everywhere blowing up.

All of this presents China with a chance to appear above the fray. To be sure, there’s an argument that China could indeed offer the calm that global investors seek. Particularly as events from Washington to Tokyo ring alarm bells.

Yet this requires Xi’s team to step up efforts to revive the narrative that China is moving upmarket as an investment destination.

A decade ago, Xi pledged to let market forces play a “decisive” role in decisions about economic and financial policy. A few years later, in 2015, a sudden plunge in stock prices slowed the reform process.

At the time, China Inc circled the wagons. Beijing directed waves of state funding into markets, suspending trading in thousands of companies, scrapped all initial public offerings and enabled mainlanders to pledge homes as collateral on margin loans. It even rushed out buzzy marketing campaigns to encourage stock-buying as a form of patriotism.

This treating-symptoms-over-reforms pattern has played out time and time again during Xi’s tenure. All of which explains why marshaling the state-sector-industrial complex to save the day, again, could backfire.

That episode, and others since then, exemplify why gains in Chinese shares too often haven’t been matched by moves to champion the private sector, increase transparency or strengthen corporate governance.

In recent years, investor disappointment sent capital fleeing China. Between late 2021 and early 2024, a $7 trillion rout in mainland shares shook global markets. Though Chinese stocks have stabilized somewhat since, the Shanghai-Shenzhen CSI 300 Index is still down 13.5% this year.

The question now, with price-to-earnings multiples trading at 13 versus 22 for the Dow Jones Industrial Average and 23 for Japan’s Nikkei Stock Average, is whether China is a “buy.”

“Chinese assets are expected to become a better choice for global funds in this round of global market turmoil triggered by the expectation of a US recession,” says Zhang Qiyao, analyst at Industrial Securities, arguing that the market boasts low valuations and improving fundamentals.

Analysts at Shanghai Securities said in a note that they “think a deep correction in the Japanese market has limited impact on China’s A-shares. Funds are expected to flow back into A-share. We believe that increased uncertainty in the overseas market and increased expectations of a recent interest rate cut by the Federal Reserve may prompt funds to seek safe havens.”

There are many risks to consider. One is the so-called “yen-carry trade” blowing up. The rebound in the Nikkei this week, a day after the market collapsed, was a relief for investors everywhere.

But the fact investors are buzzing about “contagion” effects is not a great sign as these things go. Nor is the yen’s continued upward trajectory after a powerful rally that’s already unnerving global markets.

It’s also worth noting that officials in Tokyo are preparing for the worst. Early next week, BOJ Governor Kazuo Ueda will be questioned by a parliamentary committee. Lawmakers are clearly spooked by the market freakout over a rather gentle July 31 rate hike.

Part of this paranoia reflects memories of what happened back in 2006 and 2007, the last time the BOJ tried to move rates away from zero. Back then, the central bank managed to get rates up to 0.5%.

The recession that followed still haunts Tokyo. By 2008, the BOJ was slashing rates back to zero and restoring quantitative easing. What lawmakers want answered are questions about whether Japan will suffer a rerun of that episode.

Ueda can’t say, of course. No one can. No Group of Seven nation has ever held rates at zero or near zero for 25 years. Or conducted a 23-year QE experiment, one that’s now backfiring on Asia’s second-biggest economy.

The uncertainty factor here is rather epic. It stems from the yen’s role as a key funding currency. Over the last quarter century, the most crowded trade anywhere has been borrowing cheaply in yen and redeploying those funds in higher-yielding assets around the globe.

This yen-carry trade explains why big yen rallies tend to pull the floor out from under asset markets from New York to Seoul. The yen’s 13% surge since a July low shoulder-checked global markets.

There’s concern now about similar dynamics in the Chinese currency. “The next carry trade unwind could be the yuan,” says Khoon Goh, the head of Asia research at ANZ.

On Monday, the yuan rallied against the dollar along with the yen. This move could bolster the China-as-safe-haven argument as markets from New York to Tokyo gyrate.

Yet to build trust among global investors, Beijing needs to step up efforts to improve Chinese capital markets. That’s the key to increasing the appeal of the yuan as the key currency in trade and finance.

“If they really wanted to de-dollarize China’s trade, preferably shifting at least some of it into renminbi over time, China’s leaders would need to ensure two things,” says Louis Gave, analyst at Gavekal Research.

“The renminbi should remain a stable, not excessively volatile, currency. Given the size of China’s export industry, currency stability was always a policy priority, but the drive to internationalize the renminbi made it even more important.”

Gave notes that it’s also important for Chinese government bonds (CGBs) to begin outpacing returns on US Treasuries. “If China was going to convince the central banks of Thailand, Indonesia, South Africa or South Korea to move some of their reserves from US Treasuries into CGBs, then the reserve managers at these central banks would have to be rewarded for their courageous decisions to shift away from the US dollar,” Gave said.

Sure enough, he adds, “in the years that followed, returns on CGBs crushed the returns from government bonds in the US, Germany and Japan — the world’s other major bond markets. China’s outperformance is almost as striking as the capital destruction endured by Japanese and German bondholders. Over the last 10 years, China has been the only major bond market where US-dollar-based investors were able to outperform US inflation.”

Over the last five years, Gave notes, “none of the big government bond markets have kept abreast of US inflation, but again CGBs have outperformed the others. And over the last three years, CGBs are the only bonds that have delivered positive nominal returns, although not enough to keep up with US inflation.”

Yet reforms have been uneven. News late last month that Beijing is increasing opacity surrounding the flow of capital – limiting daily data on the amount of capital international funds deploy into and out of China – is a step in the wrong direction.

Those signals came the same week as the China Securities Regulatory Commission (CSRC) pledged to improve market operations, strengthen comprehensive research capabilities, deepen response mechanisms to manage market risks and hone regulations for trading.

Still, the extreme volatility from New York to Tokyo could restore China’s appeal as a reliable investment destination. Xi’s team just needs to shift the reform process into higher gear.

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