Last Friday, HSBC Holdings held a press briefing to promote the government's proposed HK$100 billion programme of bond issues.
Bank executive director Peter Wong Tung-shun said the government's bond sales would be popular with investors, and that the programme would help deepen Hong Kong's local-currency bond market.
Both of Mr Wong's assertions are questionable.
It is far from clear either that the government's planned bonds will be a good investment for ordinary retail investors, or that the proposed programme of issues will do anything to strengthen the local debt market.
Government bonds, especially when they are issued by fiscally prudent places like Hong Kong, are usually regarded as a dull but safe investment. They generally offer a slightly better rate of return than bank deposits, but with few of the heady dangers posed by the stock market. They are seen as a secure store of value that pays a small income, and are typically favoured by cautious folk approaching their retirement.
That at least is the idea. But a quick look back over the past two decades shows that in Hong Kong, things don't always work as intended.
The government has long sold local-currency bonds in the form of its Exchange Fund note issues. A glance at recent history, however, shows that they have not always offered a secure store of value. In fact, as the first chart below shows, for the first half of the 1990s, as well as for almost the whole of last year, the yield on the three-year Exchange Fund note was below Hong Kong's prevailing rate of consumer price inflation. In other words, investors were losing money in real terms.
Granted, with the world in recession and demand severely depressed, inflation might seem a distant prospect at the moment. But remember that the Hong Kong dollar is pegged to the US dollar, and with the US government running up debts at an unprecedented rate and the Federal Reserve effectively printing more money, a nasty bout of inflation a few years down the road is a real possibility.
Usually, of course, investors would tend to react to growing inflation expectations by selling their existing bond holdings.
But in Hong Kong, that's not as easy as it sounds. As the second chart below shows, secondary market turnover in Exchange Fund notes has been woefully thin almost ever since the market's inception in the early 1990s. Liquidity in other local-currency bonds is even worse.
The reason is easy enough to spot. A look at the indicative quotes on the Hong Kong Monetary Authority's Central Moneymarkets Unit website shows that banks typically charge ordinary investors a bid-offer spread of 2 per cent or more on bond transactions. What's more, the bank that sells the bond also acts as custodian, which means the ordinary investor has no other choice of buyer if he later wants to sell.
That contrasts badly with the stock market, where shares can be freely bought and sold and spreads on trades are fixed at small fractions of a percentage point. Yesterday, for example, the spread on HSBC shares was just 0.007 per cent.
A bid-offer spread of 2 per cent on a bond should be enough to scare off any investor. In an environment where the annual yield on high-grade bonds is only about 2 per cent anyway, a spread that wide is enough to wipe out an entire year's income for the ordinary investor. That's a big deterrent to buying.
So, if the government really wants to deepen the local bond market, it should push to bring retail bond trading on to the stock exchange and into the central clearing system and ensure that ordinary investors are charged fixed commissions, just as they are for stocks. That way, investors might just show some interest in the new bond issues Mr Wong was so keen to plug.