As at the end of April the total amount held in renminbi deposits at Hong Kong banks had reached Rmb510bn ($78.7bn). This increase from Rmb90bn at the beginning of July last year has been driven by liberalisation measures announced last year by the Chinese and Hong Kong authorities aimed at internationalising the mainland currency. Such deposits are accumulating at an average of Rmb50bn a month and are largely the result of trade settlement, suggesting that these deposits will reach Rmb1,000bn early next year.
As part of longer-term plans to allow the Chinese currency to be freely convertible for both the trade and capital accounts, China aims to establish Hong Kong as the international centre for trade settlement and investment. Currently renminbi deposits account for only 7 per cent of total deposits in Hong Kong and there is widespread expectation that this will grow to 20 per cent in the next few years as the offshore currency market develops and more investment opportunities become available as part of the liberalisation strategy.
The market for offshore renminbi-denominated bonds is growing quickly. Although this market has not kept pace with the accumulation of renminbi deposits, it is currently approaching Rmb100bn with the period of rapid development only beginning last year, since the announcements concerning the lifting of key restrictions limiting ownership of the currency offshore. Prior to last July, the amount that a company or fund manager could convert in the offshore market, commonly referred to as CNH, was severely limited.
Since the liberalisation mutual funds, fund managers and other institutions have unrestricted access to the interbank market in Hong Kong. As a result there has been a flurry of activity and new bond issuance as financial institutions and companies have sought to take advantage of the significantly lower funding costs available in the offshore market.
In April the Hong Kong stock exchange listed its first renminbi-denominated initial public offering, widely expected to be the curtain raiser on a newly emerging segment of the equity market.
Presently Chinese equities typically represent less than 3 per cent of a global benchmark and yet by market capitalisation they account for about 10 per cent of the global equity market. The expectation is that as the currency internationalises, and as it moves towards being freely convertible, then both the currency and renminbi assets – including equities and bonds – will become more widely owned outside of China.
The mainland’s central bank, the People’s Bank of China, is encouraging the development of Hong Kong as a centre for renminbi investment. In April, through the Bank of China, it lowered renminbi deposit rates available in Hong Kong, encouraging investors to consider alternatives to simply keeping money on deposit which ultimately was being parked with the central bank.
Perhaps more significantly this rate reduction demonstrated a “one currency, two interest rate markets” approach to managing the development of the offshore renminbi market. Just days later the PBOC announced an interest rate hike in China as part of its measures to cool the economy and limit speculation in the property market as it attempts to control inflation.
Hong Kong retail investors have been early movers and have established renminbi deposit accounts. For this reason the early bond issues were aimed at the retail market ahead of last year’s liberalisation.
Since last July the offshore renminbi bond market for institutional participation has started to develop and there have been a number of bond funds launched. Those bond funds authorised in Hong Kong have so far been restricted to renminbi share classes only, effectively limiting access to investors in Hong Kong with renminbi accounts. Other funds with US dollar share classes have also been launched and have been largely sold through various private banks providing access to the currency and the bond market for international investors outside of Hong Kong.
At this early stage in the development of the offshore bond market it is the attraction of the currency that is driving international demand. The supply and demand dynamic with the rapid accumulation of renminbi deposits is the dominating factor influencing bond yields. This year the currency is appreciating at an annualised rate of more than 7 per cent relative to the US dollar. Market expectations suggest a gradual appreciation over several years in the 5 to 7 per cent range. For dollar-based investors the currency appreciation alone is attractive, with yields providing additional incremental return.
Bond issuers have been sensitive to demand, hence maturities have been short dated as investors have focused mainly on the prospects for currency appreciation. The market is developing quickly and more recent issues have moved out a little and have been listed allowing a wider group of funds and institutions to participate. The prospect of Ucits authorisation for a renminbi bond fund will increase the potential pool of buyers further.
The next significant policy liberalisation centres on making it easier for issuers to repatriate renminbi raised offshore back to China, and will require changes to the rules governing foreign direct investment. These changes would encourage international financial institutions and multinational companies to issue bonds in the renminbi offshore market.
These trends suggest that international investors, both retail and institutional, will be gradually increasing an allocation to the renminbi and renminbi-denominated assets.