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China Backs China in $15 Trillion Market Resilient to Turmoil

China Backs China in $15 Trillion Market Resilient to Turmoil

(Bloomberg) -- China’s $15 trillion debt market will likely shrug off the worries about sharply escalating U.S. tensions that have put its currency under pressure.

Mainland investors dominate in both domestic and offshore bonds, and they’ve lately been responding largely to moves by Beijing to avert any mass surge in bankruptcies in the world’s second-largest economy.

A flood of credit easing has led to a decline in onshore bond defaults after the all-time highs seen in recent years. And even as the offshore yuan brushed against historic lows against the dollar this week, spreads on investment-grade Chinese dollar bonds have been narrowing for the past two weeks or so, according to a Bloomberg Barclays index.

The resilience underscores that China isn’t just a typical emerging market, supersized. Should the nation’s credit markets continue to hold up in face of Sino-American confrontation, they may offer global investors a worthy diversification play.

China Backs China in $15 Trillion Market Resilient to Turmoil

Uncertainties remain, especially in the offshore bond market where Beijing’s control is weaker: should the Trump administration pursue sanctions on Hong Kong in wake of determining that the financial hub has lost its autonomy, it could affect not only foreign demand but also Chinese investors’ ability to seek financing there.

The outlook for the Chinese currency also is key to the cost and capacity for mainland borrowers to raise new debt and handle repayment pressures.

In the absence of clarity over the exact U.S. response to Beijing’s decision to enact a controversial national security law in the former British colony, it has been business as usual in China’s relatively insulated domestic bond market. Overseas, bankers also are gearing up for their busiest month of Chinese offshore bond issuance since February, spurred by a flurry of deals from tech giant Tencent Holdings Ltd. to a junk-rated builder.

‘Limited’ Impact

“Foreign capital might slow or even reduce their investment in China’s bond market due to concerns about the economy and exchange rate,” said David Qu, an economist at Bloomberg Intelligence, referring to flows into onshore bonds. “But given their small market share, the impact would be limited.”

Despite a slew of measures by Beijing to grant global investors unprecedented access to the country’s $14.4 trillion domestic bond market in recent years, foreign holdings account for 0.47% of all corporate debt, according to data compiled by Bloomberg. Most of their money has gone into less risky bonds sold by the Chinese government and policy banks, a market segment foreigners have continued to pile in in the past two years, despite the U.S.-China trade war.

In the $798 billion offshore market, much of it centered in Hong Kong, Chinese investors’ clout is less than in the domestic market, but they still make up for the bulk of ownership. And even foreign participants may be wary about exiting.

Hong Kong Hub

“The American investment banks would be wary of pulling out of some transactions in Hong Kong because it would have a bad effect on their mainland business. However, if there are transparency issues with securities or problems with rule of law or other political issues, they will have to tread cautiously,” said Andrew Collier, managing director of Orient Capital Research. “They are in a tight spot.”

The sliding yuan could become a concern, as a weaker currency would make it more expensive for Chinese borrowers to repay their dollar debt. But some observers say this factor is no longer as influential as in the past.

“Nowadays, the exchange rate is not a driving factor for Chinese issuers when it comes to fundraising options, because many of them raise in dollars to meet their dollar-denominated obligations, such as refinancing offshore debt or to support overseas operation needs,” said Wu Qiong, executive director at BOC International Holdings Ltd. “So we don’t expect the weaker yuan to damp Chinese borrowers’ incentive to sell dollar bonds.”

©2020 Bloomberg L.P.

With assistance from Bloomberg