Asset managers, brokers gear up for launch of China’s southbound Bond Connect
- The launch of China’s southbound bond trading link will likely boost liquidity in Hong Kong and US dollar-denominated bonds, industry players say
- Mainland insurance companies’ investment assets hit 21.7 trillion yuan (US$3.4 trillion) at the end of 2020
The southbound leg of China’s Bond Connect programme will likely stimulate demand from mainland Chinese investors for Hong Kong and US dollar-denominated bonds, boosting valuations when the link goes live as widely expected in the coming months, said asset managers and bankers.
The liberalisation of China’s financial markets presents a huge opportunity for both China’s myriad securities firms that glean commissions for trading bonds as well as international managers of bond portfolios, who are hoping demand for foreign-denominated bonds will receive a bump when mainland investors have an easier route to invest in offshore fixed-income markets.
“The launch of the southbound [link] could broaden the investor base for [Hong Kong] dollar bonds, whereas the support for the US dollar bond market could be strengthened even further,” wrote Elizabeth Allen, head of Asian fixed income at HSBC Asset Management.
Bond Connect, a mutual market access mechanism between mainland China and Hong Kong, launched in July 2017 with just northbound access for foreign investors into the world’s second-largest bond market. A southbound leg will complete the loop and continue China’s opening up of outflows in a controlled fashion.
Currency markets may influence timing of the launch. If the southbound link stimulates onshore asset managers’ investment into foreign currency assets, that could alleviate pressure on the yuan to appreciate, market watchers said. The yuan has risen 9 per cent against the dollar over the past 12 months to 6.4734 on Wednesday.
The extent of the opportunity for brokers seeking fatter trading commissions from the imminent southbound leg will be decided by China’s limits on its scope, such as restrictions on the types of eligible bonds, number of participants and size of investment quota.
Assets under management held by mainland institutional investors such as mutual funds and insurance companies have boomed in recent years. Mutual funds’ assets hit 19.4 trillion yuan by the end of last year, up from 8.3 trillion yuan at the end of 2015. The investment assets of insurance companies climbed to 21.7 trillion yuan from 11.2 trillion yuan during the same period, according to the Asset Management Association of China.
The Bond Connect programme is operated by Bond Connect Company Ltd, a Hong Kong joint venture established between the Hong Kong Exchanges & Clearing, and the China Foreign Exchange Trade System. Since the launch of the northbound leg, Bond Connect Company has gradually widened the number of eligible participants to over 2,500 foreign investors as of April.
To ensure a smooth start, regulators may restrict volumes, at least at the beginning, said David Yim, regional head of capital markets for Greater China & North Asia at bank Standard Chartered.
“If the initial operation goes smoothly, I believe that there will be fewer restrictions and more products that onshore Chinese investors could invest via the southbound link. More investors should mean more demand, more market liquidity,” Yim said.
To be sure, eager brokers may be disappointed. Net inflows from mainland China into Hong Kong could be muted in the early stages of the southbound leg since onshore bonds offer a relatively attractive yield.
That being said, over time onshore money managers have a pressing need to diversify their portfolios offshore. They may start by dipping their toes into less risky asset classes.
“Chinese investors may also be attracted to well-known foreign bank or corporate issuers, which have not yet issued in the onshore yuan bond market, ” said Sun.
