Global investors resumed selling China bonds on a net basis in April, missing out on the best rally in six months since the nation reopened.
They cut China note holdings in the interbank market by 41.7 billion yuan ($6 billion) last month, according to Bloomberg calculations based on data released by China Central Depository & Clearing Co. and Shanghai Clearing House. For sovereign notes alone, foreign positions declined 171 billion yuan in the first four months of the year.
Overseas investors have unloaded China’s debt every month except two since February last year, spurred by unattractive yields relative to global counterparts and speculation that a rebound in the economy will weigh on bonds.
Recent data out of China suggest, however, that the recovery in Asia’s biggest economy is waning with consumer prices barely rising, in a positive sign for the nation’s sovereign notes. The benchmark 10-year bond yield declined 7 basis points in April, the biggest monthly drop since October, and it’s fallen further to a six-month low in May, as some analysts say that the central bank may cut interest rates this year to support the economy.
Some investors are paring back their bearish stance toward the nation’s debt, with Citigroup Inc. last week upgrading China bonds to neutral from underweight. Others remain cautious including Kiyong Seong, lead Asia Macro Strategist at Societe Generale, who wrote in a note that there may only be a short window for yuan rates to outperform their global peers if there’s market turmoil due to the US debt-ceiling talks, and there’s little room for China rates to decline without a policy rate cut by the People’s Bank of China.
Chinese bonds may face more volatility in months ahead, and market players will be watching the newly introduced Swap Connect, which is a channel for global investors to hedge exposure to the nation’s notes through onshore derivatives.
“China-US rate differential may start to narrow and foreign bond flow may go the other direction as the US Fed pivots in its rate hiking cycle, and China recovery picks up for yuan rates to rise in the second half of the year,” said George Sun, head of global markets for Greater China at BNP Paribas SA, “So having interest-rate swap products for bond investors will be increasingly important.”