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HKEX Special

Bond Connect scheme offers positive spin-offs to Hong Kong and mainland China

Although a launch date is yet to be announced, the People’s Bank of China and Hong Kong Monetary Authority have approved clearing agencies in both markets to work with HKEX about rules for the scheme

PUBLISHED : Tuesday, 27 June, 2017, 4:02pm
UPDATED : Tuesday, 27 June, 2017, 4:02pm

The much-anticipated Bond Connect scheme between Hong Kong and mainland China’s bond markets may help improve market liquidity and it is expected to help accelerate the pace for the internationalisation of the yuan.

The scheme is likely to increase the appeal of Hong Kong’s IPO market. Edward Au, co-leader, national public offering group, Deloitte China, says new market connectivity programmes, such as Equity Connect and Bond Connect, and their peripheral product and service offerings will attract liquidity to the market. “This would make Hong Kong even more attractive to larger offerings,” he adds.

The scheme is a new initiative for mutual access between Hong Kong and the mainland’s bond markets through a cross-border platform. It is expected to ease trading by overseas institutional investors in the mainland bond market. It is believed that the scheme will start with northbound trading, allowing foreigners to invest in the mainland bond market.

Although a launch date is yet to be announced, the People’s Bank of China (PBOC) and Hong Kong Monetary Authority (HKMA) have approved clearing agencies in both markets to work with the Hong Kong Exchanges and Clearing (HKEX) about rules for the scheme. China’s plan to launch a Bond Connect scheme allowing overseas institutional investors to buy debt on the mainland brings the country closer to internationalising the renminbi and its inclusion in global bond indices.

PBOC and HKMA say the scheme will enrich investment channels of foreign investors, enhance investor confidence, and is conducive to an open environment to better promote international balance of payments.

Bond Connect is made up of settlement and trading. Settlement is conducted through the accounts opened respectively at China Central Depository and Clearing and Shanghai Clearing House by the HKMA’s Central Moneymarkets Unit, which will handle the account opening procedures and compliance requirements, meaning overseas investors will have greater flexibility and convenience when investing in the mainland bond market.

Hong Kong has traditionally focused on equity markets. The launch of Bond Connect will enhance bond market liquidity and strengthen Hong Kong as an international financial centre and global offshore yuan business hub, says Eddie Wong, partner of capital markets services, PwC Hong Kong.

“At first, the northbound trading will allow Hong Kong and overseas investors to invest in China’s Interbank Bond Market due to mutual access between the financial infrastructures of Hong Kong and mainland China.”

Bond Connect adds to the Qualified Foreign Institutional Investor and Renminbi Qualified Foreign Institutional Investor schemes for Hong Kong and overseas investors to invest in the mainland bond market.

Bond Connect also helps the mainland market. Overseas investors participating in the mainland bond market can help to stabilise fluctuations in the yuan
Eddie Wong, partner of capital markets services, PwC Hong Kong

As the northbound trading will need to go through Hong Kong, it will bring financial services opportunities to the territory and strengthen Hong Kong’s role as a “super connector”, Wong believes. “Bond Connect also helps the mainland market. Overseas investors participating in the mainland bond market can help to stabilise fluctuations in the yuan. Greater involvement by overseas institutional investors means more international experience within the China market, which is essential for bond market international-isation. It also provides opportunities for mainland investors to diversify their investments.”

To ensure the successful launch of Bond Connect, some clarification around channels for hedging exchange rate risks will be required. It needs to be made clear whether Bond Connect investors can access the foreign exchange derivatives market. It is also important to clarify taxation, such as withholding tax on capital gains from bond trading, Wong says.

“The next important step after the launch of northbound trading will be to explore southbound trading. This could attract many mainland investors seeking to diversify. Given the relatively small size of the Hong Kong bond market, this could lead to significant price volatility. To safeguard investors, the southbound leg should open to professional institutional investors initially. It can

fully open once retail investors are more familiar with the risks involved.”