One more sample of bond market ‘efficiency’

Despite tight restrictions on foreign exchange, Chinese investors have spent $30.4bn on US residential real estate in the past year, according to the US National Association of Realtors, while our monthly consumer survey shows that household demand for foreign exchange has only increased since the turmoil of early 2016.

Outflows have been balanced by record inflows from foreign investors, particularly into the onshore bond market. June data suggested these investors took the depreciation at the end of that month in their stride, but growing signs of currency risk could convince them to sell. [Link]

Why would anyone with a good awareness of risk and return buy Chinese onshore bonds? The yield pickup is not great and the risks are high. Unless, they were so confident that China would not really deleverage and would not allow defaults. Otherwise, it makes no sense investing in China bonds when the country’s non-financial debt to GDP ratio is already too high, when growth is slowing and trade tensions are escalating.

So much for investors’ ability to balance return considerations with risk.

That extract was from an article on RMB risk published by FT Confidential Research. Against America, China is indeed very keen to retaliate with RMB depreciation. But, they know very well that it is a double-edged sword. Capital outflows will accelerate. Same problem with their holding of US Treasuries. If they dump it, they face capital losses. The dollar will weaken, everything else being equal.  Rising US interest rates will push up Chinese cost of capital too. Yields on China bonds will rise too. It will be a self-defeating exercise too.

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One thought on “One more sample of bond market ‘efficiency’

  1. I think the real money bond portfolio inflows into China are tracking the gradual increases in China’s index weights in the Bloomberg-Barclays Global Aggregate Index, JPM’s GBI-EM and Citi’s WIGBI. There’s also the rising weights from MSCI on the equities side. If you track monthly flows on Bloomberg, you will find these net portfolio inflows to have been quite large. But I agree, on an absolute/unhedged basis, the exposure to CGBs makes little sense. Would also prefer being underweight in indexed funds, though, I imagine not many investors would to give the exposure a miss altogether.

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