Bank of China, HSBC Among First to Trade on New Bond Link

(Bloomberg) -- A new channel for Chinese investors to purchase debt overseas launched Friday, with Bank of China (Hong Kong), HSBC Holdings Plc and Standard Chartered Plc among the major banks conducting trades.

The southbound link of the Bond Connect draws capital from the mainland to the southern city of Hong Kong to complete the loop with a northbound program started in 2017. With 41 banks among those eligible to participate during the initial phase, analysts see it eventually boosting China’s offshore bond market and issuance of Dim Sum and ESG-compliant notes, as well as bringing offshore and onshore yields closer.

The program has an annual quota of 500 billion yuan ($77.4 billion) and a daily quota of 20 billion yuan, both of which can be adjusted based on cross-border fund flows. There were 4 billion yuan of deals on the debut day, according to the People’s Bank of China.

“This is broadly expected - a relatively slow start, given most institutions needs more time to set up or identify offshore bonds,” said Becky Liu, head of China macro strategy at Standard Chartered in Hong Kong. “We believe the uptake will increase materially over time, but initially the institutions need more time for technical set-up, and study of offshore markets to identify the best candidates.”

The launch, announced last week by the People’s Bank of China and the Hong Kong Monetary Authority, has come at a tumultuous time with markets roiled by concerns over China Evergrande Group’s liquidity crisis and the financial health of other developers that are grappling with tougher rules on leverage. China junk bond yields recently touched the highest in nearly a decade, according to a Bloomberg index.  

Bank of China (Hong Kong) started conducting bond trades with onshore institutional investors on the first day of trading under the program, according to a statement. Bank of Communications also completed a range of trades in yuan, Hong Kong dollars and U.S. dollars for securities such as Ministry of Finance bonds, central bank bills and Chinese offshore dollar notes. 

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Among other market makers for the link, HSBC and Standard Chartered said in statements they had assisted mainland clients to trade overseas bonds and closed multi-currency deals through the channel. 

Citic Securities Co. said it had completed a 50 million yuan ($7.7 million) trade with China Citic Bank International Ltd. on a central bank bill. 

Part of China’s push to modernize its financial markets and allow for more cross-border fund flows, the southbound connect will “gradually become the major channel for domestic financial institutions to trade offshore bonds,” said Ming Ming, head of fixed income research at Citic Securities. He added that “short-term sentiment will be negatively impacted by recent credit risk concerns.” 

Before Friday’s southbound launch, the link only allowed flows in the northbound program, providing global access to China’s vast interbank debt market. “The long-awaited southbound Bond Connect shows China is now less worried on capital outflows,” said Gary Ng, senior economist at Natixis. 

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Expectations are that investors will be initially risk-averse. Given “the recent turmoil of the Chinese dollar bond market as well as the intensifying property bond risks, we don’t expect investors to buy risky notes,” said Zhou Hao, senior emerging markets economist with Commerzbank AG. “They may start by trading relatively safe assets.”

Other channels are already open to the investors the Southbound link targets, such as the Qualified Domestic Institutional Investor (QDII) and RMB Qualified Domestic Institutional Investor (RQDII) programs. “While it offers another path for cross-border investment, the initial attractiveness may still depend on whether the investment costs are lower than other options,” said Natixis’ Ng. 

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With assistance from Bloomberg