Dim Sum flavour lingers
After celebrating its first anniversary on July 19 2011, Hong Kong’s offshore renminbi bond market continues to move at a fast pace.
Slightly more than a year ago, China expanded its trade settlement pilot project and the Hong Kong Monetary Authority allowed offshore entities to issue bonds in the special administrative region (SAR), ushering in a wave of interest in the new offshore renminbi market.
As the dominant investment option for investors in the offshore renminbi market, the volume of offshore renminbi bonds, known as Dim Sum bonds, has rocketed during the past 15 months.
Investors have rushed to build exposure to the appreciating renminbi. That demand has kept the Dim Sum business ticking over even as global markets have slammed almost shut, with the past two months providing many examples of the Dim Sum market’s resilience in the face of global volatility.
Since July 2010, an increasing number of Chinese and overseas banks and corporations have raised funds in the Dim Sum bond market, bringing the total outstanding stock of Dim Sum bonds to nearly Rmb165.6bn (US$25.7bn) at the end of August and is expected to touch the Rmb200bn mark by the end of 2011.
The volume of Dim Sum bond sales more than doubled to Rmb43bn in 2010, and reached a new high of Rmb117bn (including CDs) in the first eight months of 2011.
Despite the Muddy Water report on Sino-Forest and Moody’s “red-flag” warnings on Chinese corporate governance, followed by the US and the European sovereign debt crisis, deals have continued to be printed in the Dim Sum bond market.
The Asian G3 high-yield market has been pretty much shut since June and the investment-grade market has been opened only for sovereign, quasi-sovereign names or top corporate names.
However, Rmb64bn of Dim Sum deals were issued from June to August, which included Rmb41bn of corporate issuance and Rmb23bn from financial institutions.
Hong Kong remains the only place in the world outside mainland allowed to issue renminbi bonds and have a clearing centre for renminbi bonds in the HKMA’s CMU. Offshore investors can settle their renminbi bonds through Euroclear and Cedel, only because they have a link to the CMU system.
Rmb FDI before year-end
The one hurdle to the growth of the Dim Sum market is the repatriation of proceeds to mainland China. Outside of banking and trade settlement, companies have little use for renminbi in Hong Kong and most of the proceeds from Dim Sum bonds have been remitted onshore. Chinese regulators, however, have yet to standardise rules governing the procedures for remittances, meaning issuers need to apply on a case-by-case basis for an approval that may take months to arrive.
To tackle that, China’s Ministry of Commerce released for public consultation on August 22 a set of tentative rules on foreign direct investment using offshore renminbi Some market players believe a final version, which is expected before the end of this year, is pretty much set.
Under the new rules, the MoC defines what constitutes “offshore renminbi funds from legitimate channels”, which include trade settlements, bond and equity fundraising offshore and “the allowable uses of proceeds”.
Investments below Rmb300m will not need ministerial level approval, but investment above that threshold will need special approval from the MoC.
Beijing will retain control over exactly what type of renminbi-denominated FDI is entering the Chinese economy, and in what quantities, according to a HSBC research report.
Market players have welcomed the draft as it is a move towards establishing a transparent and standardised framework to allow offshore renminbi to be utilised onshore and to clear away the repatriation hurdle hindering the growth of the Dim Sum bond market.
Dim Sum bonds have also seen investors rush to build exposure to the potential of the renminbi becoming a reserve currency in the future.
It is no secret that China is moving to turn the renminbi into a currency for trade settlements first, then an investment currency and eventually a reserve currency.
In September 2010, Malaysia became the first country to buy renminbi bonds for the use of foreign currency reserves. Since then South Korea, Cambodia, Belarus, Russia and Philippines have joined the crowd to pile up renminbi denominated bonds.
The latest countries looking to jump on to the renminbi reserves bandwagon are Nigeria and Mongolia. Nigeria’s central bank governor Lamido Sanusi said Africa’s second-largest economy would start holding yuan as part of its reserves from the next quarter, an allocation of as much as 10%, and will look at investment opportunities in the offshore yuan market, according to Reuters.
“While not yet offering the liquidity and depth characteristics sufficient to be a core reserve currency, the conventionalisation of the offshore renminbi and the offshore renminbi asset markets will make the renminbi increasingly attractive to reserve managers as an important marginal destination of reserve diversification,” said Daniel Hui, senior FX strategist at HSBC.
London next … and India
China is taking new steps to promote the use of the renminbi in other markets.
Despite Singapore’s eagerness to become an offshore renminbi centre, Beijing does not seem not very enthusiastic about building a comparable or competitor which is so close in many aspects to Hong Kong. Instead, London looks likely to be the next star in the offshore renminbi market.
Hong Kong SAR’s chief executive, Donald Tseng, was joined by Norman Chan, the chief executive of the Hong Kong Monetary Authority, Trade Development Council and Hong Kong’s three note issuing banks on an offshore renminbi promotional roadshow there in early September.
“For London as Europe’s business and financial centre, the demand for offshore renminbi financial services and products by customers will increase rapidly. In this regard, the Hong Kong renminbi platform can support the development of various kinds of offshore renminbi businesses in London, and this will be mutually beneficial for both places,” said Norman Chan on the roadshow.
The three banks, namely Bank of China (Hong Kong), HSBC and Standard Chartered Bank, which hold the largest portions of renminbi deposits in Hong Kong are also the top players in the offshore renminbi markets.
In fact, it was already the second such tour in London as HSBC, accompanying an officer from the People’s Bank of China, the central bank of China, visited the city with the same purpose earlier this year.
London’s pitch to become the renminbi trading hub for Europe includes its attempt to secure a swap line with the PBOC. In mid-June, Kazakhstan became the latest to join the list of jurisdictions, now numbering 12, which have standing bilateral currency swap lines totalling Rmb 841.2bn with China for three years.
Elsewhere, India is catching up with the renminbi fever as the Indian government has relaxed its overseas borrowing rules allowing firms to raise renminbi-denominated funds. In other words, the rule opens the door for Indian companies to tap Dim Sum bonds and loans.
As costs of funding are far less in the Dim Sum bond market than in the Indian domestic market, Indian companies are expected to rush to Hong Kong. An initial cap of US$1bn has been set by the Indian authorities for renminbi borrowing from that country.
“We believe the renminbi will be among the top three global trade currencies by 2015, with trade in renminbi forecast to reach US$2trn, equal to about a third of China’s total trade,” said Thomas Poon, head of business planning and strategy for Hong Kong at HSBC who was on some of the promotional trips.
Another Rmb50bn on the way?
For the rest of this year, the gross supply of Dim Sum bonds/CDs is expected to be about Rmb50bn, as stated by Chinese vice-premier Li Keqiang, during his recent trip to Hong Kong. Market players reckon half of that will be from financial institutions.
Chinese banks alone have announced plans to raise a total of more than Rmb120bn in the Dim Sum bond market in the next three years.
Having gone through the recent market turmoil, more investors are likely to prefer high-grade debt over high-yield in the coming months.
More multinational corporations, such as McDonald’s, Unilever, Tesco and Fonterra, are expected to return for a second round of Dim Sum funding, following in the steps of US heavy-equipment manufacturer Caterpillar, which printed its second deal in June.
Typically, the sizes of the issues are limited by the amounts approved by China’s State Administration of Foreign Exchange for onshore remittance.
New and interesting names will continue to join the Dim Sum party. Among the list are BSH, Lafarge Shui On, Nissan Motor, and a unit of Indian lender Infrastructure Leasing & Financial Services, which may become the first Indian company to tap the Dim Sum bond markets.
In fact, Dim Sum yields have been quietly rising in the past two months. Investors have also asked for higher returns on Dim Sum deals, given the availability of other renminbi-denominated products, while scepticism towards Chinese corporate governance standards has driven up yields across the industrial sector.
“High-yield paper has widened far greater than the high-grade credits,” said one DCM banker, adding that high-yield credits had widened 100bp–150bp in the past couple of months due to market volatility.
Chinese issuers were able to save as much as 2%–3% on their Dim Sum bonds compared with their US dollar borrowings at the start of 2011.
Meanwhile, expectations for the renminbi to appreciate have eased off. In fact, after the Chinese currency’s appreciation of about 5% in the past year, the latest forecasts have declined to around 3% yearly as the country’s manufacturing sector slows, as evident in declining PMI index.
’We expect authorities to continue their drive to make renminbi ultimately a fully convertible, deliverable, and international reserve currency alternative over the coming years’
In the background, Hong Kong renminbi deposits rose another 3.4% in July to Rmb572bn, on track to reach HSBC’s forecast of Rmb800bn–Rmb1.2trn at year’s end. The total renminbi remittance for cross-border trade settlements amounted to Rmb952.46bn (see table) in the first seven months, already more than double of the Rmb369.2bn figure for the entire 2010. China has expanded its renminbi trade settlement scheme nationwide in the middle of 2011.
Spot and forward contracts in the offshore renminbi market amount to about US$2bn–$3bn daily. To facilitate the development of the offshore renminbi market, the HKMA on July 28 2011 relaxed its 10% limit on net open positions for renminbi, removing restrictions on forex swap trading. These relaxations are expected to enhance liquidity in the offshore renminbi swap and bond markets.
“We expect [Chinese] authorities to continue their drive to make renminbi ultimately a fully convertible, deliverable, and international reserve currency alternative over the coming years. This will mean the pace of internationalisation, development and growth of the market will remain very rapid and may continue to outpace market expectations for some time,” said Daniel Hui Senior FX Strategist on the offshore renminbi.
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