Fidelity Bets Against China Bond Rout With Record Holdings

(Bloomberg) -- A savage rout in China’s $2.6 trillion sovereign debt market is offering Fidelity International opportunities to snap up bonds from the world’s second-largest economy.

Portfolio manager George Efstathopoulos has boosted investments in Chinese government bonds to a record on expectations of more foreign capital inflows. He also sees them offering protection against risk asset sell-offs and favors their higher yields and lower volatility relative to the likes of U.S. Treasuries.

Efstathopoulos is undeterred by a blistering Chinese stocks rally and surging debt issuance that caused 10-year yields to spike the most since 2016 last week.

“We’re still buying,” Singapore-based Efstathopoulos said. “China is one of the interesting markets in the sense that we like all of the parts of the China capital structure -- we like CGBs, we like credit.”

Foreign investors have added to their Chinese sovereign bond holdings every month since early last year as China progressively removed investment limits. As of June, they owned about about 9.1% of government debt in the country.

Despite rising tension between Washington and Beijing, Efstathopoulos expects global inflows to gain momentum as index providers including JPMorgan Chase & Co. and Bloomberg Barclays phase in Chinese government debt to their benchmarks.

Most discussion about blocking American investment in China at the moment is focused on equities rather than bonds. This includes a push to block a U.S. government retirement fund from investing in some Chinese companies as well as barring Chinese companies from trading on U.S. stock exchanges.

Fidelity’s Global Multi Asset Income Fund, which Efstathopoulos helps manage, had about 3% invested in China’s debt markets at the end of May.

Chinese government debt “still has very low foreign ownership,” he said.

Worsening relations between the two superpowers may actually play to the appeal of Chinese bonds as haven assets.

“I’d argue that any spike in risk, a deterioration in the U.S.-China trade war, will be a positive for CGBs,” he said. “It was a positive thing for CGBs in the previous episode.”

Here are edited comments from a Q&A with Efstathopoulos:

1. Long Euro

There’s been pressure to increase our dollar exposure because we’ve been reducing our emerging-market currencies exposure. But instead, that money has been going to euros. You had interest-rate differentials which were extremely supportive of the dollar in the past -- that’s now behind us to a large extent. Trump’s tariffs and trade war policy have been positive for the dollar. If Biden wins, I don’t think he’ll be following the same tariff policy as Trump.

2. Asia Preference

It’s a top-down view, our overall reduction of emerging-market local currencies and rates. We’ve been selling the rally and we’re more cautious because valuations might be cheap, but coronavirus developments in the EM space are alarming especially Brazil and Latin America. We prefer Asia FX and local rates perhaps at the expense of LatAm and a little bit of Eastern Europe.

3. Corporate Bonds

We’ve used the opportunity of the Fed buying corporate bonds to increase our investment grade and U.S. high yield exposure. We have more IG corporates than we had a year ago and as a result our Treasury duration has gone up because of that. We like to pick up the spread and the spread duration. We’ve been big buyers of high yield across Asia, Europe and U.S.

4. Buy Yen

We have today our highest allocation to yen, we started building that position last year. It’s a very cheap defensive asset.

©2020 Bloomberg L.P.