Hong Kong eyes retail bond connect scheme with mainland China

PUBLISHED : Tuesday, 29 November, 2016, 10:21pm
UPDATED : Wednesday, 30 November, 2016, 8:43pm

Hong Kong authorities unveiled a proposal for a potential bond market connect scheme with the mainland to broaden bond investment options for retail investors, at a time when stock markets on both sides of the border are set to be more closely linked with the newly announced Shenzhen-Hong Kong Stock Connect.

A report titled “Proposal on the Mainland-Hong Kong Bond Market Connect” was released on Tuesday by the Financial Services Development Council (FSDC), an advisory body established by Hong Kong government in 2013 to formulate proposals to promote further development of the city’s financial services industry.

“Following the connection between the mainland and Hong Kong on the stock market, there is room for Hong Kong to further capitalise on the opportunities brought about by the connection in the bond market,” said Laura M Cha, chairman of the FSDC.

Connecting with the mainland’s bond market, which is the third largest in the world with a depository balance of US$8.7 trillion as of the end of July 2016, could broaden investment options for cross-border retail investors and increase liquidity of Hong Kong's bond market which has a market size of US$400 billion, according to the FSDC.

“It could further open the mainland’s capital market,” said George Leung, a member of FSDC’s mainland opportunities committee and an Asia-Pacific advisor for HSBC. “The objective of the scheme is to connect bond markets in the two regions for retail investors.”

The FSDC recommends allowing mutual access for both mainland and Hong Kong retail investors to each other’s exchange-traded bond market under the prototype of the stock connect scheme.

Separately, as most of the trading of bonds in both markets is conducted over-the-counter

(OTC), FSDC recommends allowing retail investors access to each other’s OTC bond market by opening and maintaining a special trading account with designated banks in both jurisdictions.

In both northbound and southbound trades, the designated banks would be responsible for placing orders, trading, as well as clearing and settlement of behalf of their customers, according to the proposal.

The measure, according to the report, would be especially beneficial at a time when mainland investors’ demand for foreign fixed-income products is growing rapidly amid the depreciation of the yuan.

However, there are some challenge ahead before the scheme could be launched.

FSDC said that tracing cross-border capital investment in the mainland and Hong Kong’s bond markets would be a key challenge, since China’s capital account is not fully open yet. Therefore, it also suggests restricting investors from changing custody under the pilot stage of the scheme.

In addition, FSDC suggests that mainland authorities waive the financial and investment experience criteria that applies to domestic retail investors. Currently, while Hong Kong’s bond market is open to all issuers and investors, on the mainland bond investment is only open to individuals who meet the minimum financial and investment experience requirement.

“Given a sharp depreciation of the renminbi, mainland investors’ demand has been surging,” said Leung.

However, currently there are limited channels for mainland investors to invest in overseas bonds, but they can invest in Hong Kong’s bond market through qualified domestic institutional investor (QDII) and RQDII funds as well as the mainland-Hong Kong mutual recognition of funds scheme.

The share of bond-only funds under the QDII programme is small, at less than 3 per cent of the total US$90 billion QDII quota as of the end of the second quarter this year, according to the FSDC.

“Although the mainland-Hong Kong mutual recognition of funds scheme has been in operation for more than a year, only six Hong Kong fund products have been sold in the mainland, with only two of them focusing on fixed-income products,” according to Leung.