On Friday in the daily update we wrote about our viewpoint on China’s bond market and some of the some risks it can represent. To recap, we said: A lot of investors are looking at local Chinese debt markets; we have always said that the only issuers that international investors should consider should be the central government issuance and if absolutely necessary the policy banks too. All other credits should be avoided as it is very difficult to figure out which credits will be supported, and which will not. More importantly, if investors have exposure to RMB denominated assets then the major driver of returns is the exchange rate; why try and get an extra few basis points in return from holding non-government issues when the renminbi may appreciate significantly.
Yesterday on the front page of the Financial Times there was an article warning how Beijing will show ‘zero tolerance’ for financial misconduct after several high-profile bond defaults roiled the Chinese debt market. At a meeting for the committee that supervises China’s financial sector, Liu He, the vice premier, promised the authorities would ‘severely’ crack down on illegal behaviour on bond financing, ranging from ‘malicious’ transfer of assets to misuse of funds the FT reported.
As the last paragraph of the daily stated, there are risks in China, as there are in the US and around the globe in the current climate, but there is no need for investors to expose themselves to those risks if the primary driver of returns is in fact the currency rather than anything else. Again on our funds where permitted we do have open CNH exposure, through the forex forward market, buying CNH forward the carry is built into the price of the forex contract and currently at a one month maturity yields 2.5% on an annual basis.
We are sure you are aware, however for those who are not, here at SSC we run an award winning pan-Asian, hard currency, investment grade bond fund that has an overlay of the Chinese yuan. The fund has been running over 12 years and has never had a default.