How to squeeze the last drop from yuan bonds

PUBLISHED : Monday, 30 May, 2011, 12:00am
UPDATED : Monday, 30 May, 2011, 12:00am


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Ping An of China Asset Management, which at end-April closed a 500 million yuan (HK$600 million) bond fund, marketed its fund by noting the average yield for yuan bonds was 1.5 to 2 per cent.

While that's not so exciting, the fund's overseers think they can increase their returns to about 4 per cent and, indeed, the coupon rate of the invested capital is currently 3.9 per cent, Ping An says.

That's not very exciting, either. But if you add an expected 5 per cent yuan appreciation against the Hong Kong dollar by year's end, that starts to look attractive. And Ping An's yield-enhancement plans could provide clues to other funds about how to squeeze decent returns from yuan securities.

Benjamin Rudd, the firm's head of overseas investment, says Ping An has a number of advantages. Firstly, as an arm of an insurance firm, the entity is familiar with bond investments, as these securities line up nicely with the long-dated nature of insurance policies. (Insurers often invest clients' premium payments in bonds, to create regular long-term income to cover policy holders' eventual claims.)

As Ping An has been such an active investor in mainland bonds, it has built an in-house credit analysis team to review the mainland's often unrated issuers.

As mainland firms now come to issue yuan bonds in Hong Kong, Ping An knows many of these issuers well, so it has a good read of the correct pricing for their bonds.

'We have something like 1,800 credits rated. We have never had a default on any paper we have rated internally,' Rudd says. 'We use our system to give bonds an internal rating. If there's an independent rating, we compare that to see whether we think it is expensive or not expensive.'

Ping An can take a view on unrated issuers coming to Hong Kong from the mainland, which may be unknown to international investors and thus may be willing to pay yields well above the 1.5 per cent to 2 per cent market average.

Rudd expects a lot more unrated issuers to come out of the mainland, as Beijing encourages firms to raise offshore yuan. He says authorities are relaxing rules on the repatriation of yuan funds raised offshore through such bonds. This will entice firms to bring more deals.

Investing higher yielding bonds from unrated firms is the first way Ping An can beat the market average. The second is by trading yuan bonds in an increasingly vibrant secondary market in Hong Kong. Ping An believes it will have a better read on mainland credits than the market, so it expects to make money by trading bonds on a daily basis.

'A new issue comes into the market with a yield of 5 per cent. As soon as you try to buy in the market, because of the demand, it is 3 per cent. So if you sell it, you crystallise that gain,' Rudd says.

One caveat is that, should Ping An be successful in this kind of trading, parties at the other end of the transaction will be losing money. These may be institutions with their own bond funds. It's one more reason to carefully review one's yuan bond fund.