China_Bond_Market_Concept_Paper

–AnIntroductionAnalyticalContactsLiyuZeng,[e-mail]no(212)[e-mail]•WhileforeigninvestorshaveflockedtoChineseequitiesbecauseofperformanceandcorrelationconsiderations,thereisrelativelylessawarenessofChinesebondmarkets.Thispaperservesasanintroductiontostructure,tradingvenues,investorbaseandperformanceofChinesebondmarketsforoutsideinvestors.•Aftermorethanaquartercenturyofdevelopment,ChinesebondmarketshaveevolvedintoaRMB15trillion(morethanUSD2trillion)marketacrossabroadvarietyofcredit,maturityandinvestorprofiles.•Themarkethasamulti-layeredstructure,comprisedofthenationalinterbankmarket,theexchangemarketandbankcounters,withtheinterbankmarketbeingthedominanttradingvenue.•ForeigninstitutionalinvestorscaninvestinChinesebondsbyseekingregulatorapprovalforQFIIquotaoraccesstotheinterbankmarket.Productcreatorsandassetmanagershavehithertofocusedonbringingouthighermarginequityproducts.ThismaychangeasglobalinvestorsseektoparticipateinthegrowthofChinesecapitalmarketswithoutvolatilityofequities.•Overthefiveyearsending2008,theChinesebondsinaggregatereturned8.1%annuallyinUSDtermsasmeasuredbyS&P/CITICCompositeBondIndex,aratehigherthanthoseofU.S.andEuropeanbonds.RMBappreciationwasakeyreturndriver.•CorrelationsofChinesebondswithU.S.andEuropeanbondshavebeenlessthan10%.CorrelationwithChineseequitiesisalow1.6%.•Prospectsforfutureevolutionofthemarketincludebroadeningofcorporatebondmarkets,expansionofderivativesandriskmanagementtools,andpossibledevelopmentofmunicipalbonds.AnintroductiontoChineseBondMarketsMarch2009Standard&Poor’sPage2IntroductionThispaperaimstoprovideforeigninvestorsabriefintroductionofthepast,presentandfutureoftheChinesebondmarket.Inthefirstsectionofthepaper,thehistoryofChinesebondmarketisreviewed,coveringthedevelopmentofmarketinfrastructureandmajorbondinstruments.Thesecondsectionprovidesdetailedinformationaboutthecurrentmarketstructure,marketsegmentsandmarketparticipants.Recentperformanceofthemarketanditsdrivingforcesarediscussedinthethirdsection.Thelastsectionlistsseveralareasoffurtherdevelopmentofthemarket.HistoryofChineseBondMarketI.Before1949China’saccesstobondscanbetracedbacktothelateQingdynasty.AfteraseriesofwarswiththeWest,thegovernmentfacedenormousindemnities.Unwillingtoborrowfromitsowncitizens,thegovernmentwereforcedtogotoforeigncapitalmarkets.BondsissuedduringtheQingdynastywerealmostexclusivelygovernmentforeignissuancessecuredwithanarrayofvariousfiscalrevenuessuchasmaritimecustoms,salttaxesandinternaltransittaxesetc[8].ThefirstdomesticbondmarketwasestablishedundertheRepublic’sregime.FollowingtheendofimperialgovernanceinChinain1911,thenewRepublicgovernmentshortlyranintofiscalproblems.Whilecontinuallyrelyingonforeigndebtssecuredwithfiscalrevenues,theRepublicgovernmentstartedtoissuedomesticbonds.Asthegovernmentwentthroughcontinuouswarfare,fiscalrevenueswereseverelydisrupted.Tomakeendsmeet,thegovernmenthadtopickupitsborrowingspeeduntilitfounditselfattheedgeofbankruptcy.Afteraseriesofdefaultsandreorganizationsinthe1920-1930s,thecreditworthinessofthegovernmentandthemarketwasseverelydamaged.Inthe1940s,thegovernmenttookadvantageoftheprevailinginflationbyissuinganewcurrency,effectivelywipingoutmostofitsoutstandingdebtsattheexpenseofbondholders[8].II.Post1949AftertheCommunistpartytookthereinsofthecountryin1949,theeconomywasdevastatedfollowingthe8-yearSino-Japaneseand4-yearcivilwars.Torevivetheeconomy,thenewgovernmentissuedRMB302milliondebts,whichstabilizedtheeconomyandprovidedthecapitalthegovernmentneeded.In1953,fiscalpressurewasgreatlyalleviatedwithforeignaidinjectedandanewtaxsystemestablishedtosecureasteadygrowthoffiscalrevenues[6].Withtheeconomystabilized,thegovernmentsetouttofulfillitseconomicreconstructionplans,theso-called“FiveYearPlans.”From1954to1958,thegovernmentraisedRMB3.5billionintotal.Meanwhile,thegovernmenttookfullcontrolofthecountrybyestablishinganewnationaleconomicsystemwithhighlycentralizedplanningandbudgetallocation[6].Asthegovernmentdirectlycontrolledandsuppliedcorporatecapital,therewasvirtuallynoneedfortheexistenceofseparatecorporatebondsandfinancialbonds.Therefore,bondsissuedduringtheperiodweresolelygovernmentbondsintheformofphysicalAnintroductiontoChineseBondMarketsMarch2009Standard&Poor’sPage3printingnotes.Theissuanceofthebondswasdonethroughadministrativeapportionratherthanvolunteerinvestment,andnosecondarymarketsexisted.Followingthebreak-upofitsrelationshipwiththeSovietUnioninthelate1950s,theChinesegovernmentdecidedthatitshouldhavenointernalandexternaldebts.Asaresult,for20yearstherewerenodevelopmentsinthebondmarketandmostofthefiscaldeficitwasfinancedbymoneycreation[1,6].1.GovernmentBondMarkets&InfrastructureDevelopmentIn1979,theChinesegovernmentstarteditsprofoundeconomicreforms.Theraisingofpricesforruralproductionandtheallowanceforenterprisestoretainpartofprofitsoriginallycollectedbythegovernmentquicklyturnedthecountry’sfiscalbudgetinthered.Tofinancetheeconomicreformsandtocur