Short-Term Yield Spike Attracts Long-Term investors

The spread between China-US 10-year government bond yield also widened near 20bps in October.

Many concurrent factors are at play which point to the same market consensus: yield higher

1. Positive US-China trade deal related headlines keep streaming in like phase-1 deal, ongoing high-level negotiation talks.
2. Fixed income trades and investors expect CPI could go further higher with rising pork price spilling over to other consumer sectors. Historically, when CPI and PPI and diverging, like in current case where CPI is expanding while PPI is contracting, PBOC tends to pay more attention to CPI.
3. Some market expectation that PBOC will follow Fed's rate cut via certain monetary policy tools were priced out in the near term. For example, some key policy rates like RRR, MLF and LPR remained unchanged.

As for the third reason, such expectation was not groundless if we consider all the deteriorating economic indicators like GDP growth at record low, contracting PPI and slowing FA investment growth. Many long-term investors take this as great opportunity to increase their long exposure. For example, Japan, the world’s largest exporter of negative interest rate, has net invested into China bond market over the past 2 years for additional yield.

Credit Bond Market: Private Sector’s Pressure Remains

According to latest report released by Fitch, the number of issuers that defaulted in 10M19 has exceeded the level for full-year 2018, albeit still below 2%. Defaults by POEs outnumbered state-owned enterprises (SOEs) despite POEs' much lower share by both issuer count and principal amount, since POEs are more vulnerable to external funding market volatilities than SOEs, and therefore usually face higher liquidity risk under tight credit conditions. Aggressive business expansion and weaker corporate governance have also led to some private-sector defaults.

Bond connect flash report

Content from BOND CONNECT: https://www.chinabondconnect.com/documents/FlashReportforBondConnect-2019-10.pdf

By end of October, Bond Connect has attracted 1377 institutional investors in total from 31 jurisdictions, including 69 investors newly onboarded during the month. Investors from the US saw the largest number of accounts opened with Bond Connect among all jurisdictions, contributing to 34% of overall investor base. Fund accounts currently take up 85% of total accounts opened. 62 out of top 100 global asset managers have been onboarded with Bond Connect for China access.

Bond Connect monthly trading volume freshly hit an all-time high of RMB347.9 billion in October with 3080 trades executed. Global investors contributed to net buy flow of RMB7.2 billion. Policy financial bonds, Chinese government bonds and NCDs remained the focus of investors with turnover of RMB192.8 billion, RMB95.2 billion, and RMB46.8 billion respectively, accounting for 55.4%, 27.4%, and 13.5% of monthly trading volume. In terms of tenor, bonds with maturity from 7 to 10 years remain the most popular, taking up 48.6% of total activities. Top active dealers this month are Agricultural Bank of China, Bank of Communications, Bank of China, CITIC Securities, Guotai Junan Securities, Shanghai Pudong Development Bank, Industrial and Commercial Bank of China, Standard Chartered Bank (China), Industrial Bank, and Orient Securities.