Hong Kong dollar $100 banknotes and a U.S. $100 banknote are arranged for a photograph in Hong Kong, China, on April 15, 2019. Photographer: Paul Yeung/Bloomberg.
Last week, China borrowed dollars in global credit markets at essentially the same cost as the United States, and traders immediately drove the yields on the bonds down even further.
China raised US$2 billion in a sale of three- and five-year notes. The securities were priced to yield just 1 and 3 basis points (bps), respectively, over similar-maturity Treasuries. Then, once trading kicked off Thursday, spreads tightened to about 24 and 25 bps under Treasuries, traders said.
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That all adds to signs of strong demand that stood out throughout the debt-sale process at a time when credit markets have been hot. Traders said part of the strength stems from demand from Chinese investors, who have been hunting for higher returns globally as local rates grind lower. Bids for the $2 billion deal came to about $40 billion, 20 times what was on offer, according to a person familiar with the matter.
Chinese investors can benefit from tax exemptions on the nation’s sovereign debt. Their enthusiasm already helped some of China’s previously issued dollar bonds trade at lower yields than Treasuries for most of the past year, a rarity because the U.S. securities have historically been considered the safest of investments.
“There is a scarcity premium here because the Finance Ministry really has very little funding needs in dollar except to establish a dollar curve for Chinese corporations issuing overseas,” said Zhenbo Hou, a macro strategist at RBC BlueBay Asset Management, explaining appetite for the debt.
More broadly, emerging-market dollar bonds have been increasingly attractive, after worries over default risks across sovereign borrowers triggered by the pandemic eased. The extra yield that investors demand to hold such debt versus Treasuries fell to a four-year low this week, narrowing to 323 bps, according to a JPMorgan Chase & Co. index.
Even amid that strength, China stands out. The yield on its dollar note due November 2027 has been below that for Treasuries for most of the past year. It was last about 18 bps under the equivalent U.S. government bond, Bloomberg-compiled data show.
In a sense, it’s surprising that such gauges of the cost of borrowing for China would be at or below that of the United States. China has lower credit ratings from the major international assessors than the U.S. For example, Moody’s Ratings gives it an A1 rating, its fifth-highest investment-grade score, compared with Aaa for the United States.
But while still higher, the U.S. has suffered ratings setbacks. Fitch Ratings cut its score last year to AA+, from AAA, criticizing the country’s ballooning fiscal deficits and an “erosion of governance” that’s led to repeated debt-limit clashes over the past two decades. S&P downgraded the United States to AA+ in 2011 for similar reasons. “Lack of dollar-bond supply, plus accommodative financing conditions onshore, have led to a strong bid for dollar bonds from China onshore investors,” said Xue Zhou, senior China economist at Mizuho Securities Asia Ltd.
While China’s newly issued bonds were available to investors globally, officials last week said they would be sold in Saudi Arabia, an unusual venue given that London, New York, and Hong Kong are normally picked for such transactions. But the choice comes after recent efforts to boost economic ties. Officials from China and Saudi Arabia met earlier this year to discuss cooperation, and the warming relations can be seen in moves such as a doubling of investment in Saudi Arabia by China’s biggest steel producer.
“It is in line with the two countries’ rising connections,” said Ting Meng, senior Asia credit strategist at Australia & New Zealand Banking Group. “The bond is in the same format as prior ones, but there could be more Middle East investors.”
The bonds are listed on Nasdaq Dubai and the Hong Kong exchange.
China sold 2 billion euros (US$2.1 billion) of notes in Paris in September, its first euro-denominated bond sale in three years. Last week, the Ministry of Finance announced a $1.4 trillion bailout program for debt-straddled local governments, though it stopped short of more stimulus to lift domestic demand.
Bank of China, Bank of Communications, Agricultural Bank of China, BofA Securities, China Construction Bank, China International Capital Corporation, Citigroup, Crédit Agricole CIB, Deutsche Bank, First Abu Dhabi Bank, Goldman Sachs (Asia) L.L.C., HSBC, ICBC, J.P. Morgan, Mizuho, and Standard Chartered Bank arranged the sale.
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