Why the Panda Bond Market is Growing as the Dim Sum Market Shrinks

Article by GlobalMacroForex

In the previous article we learned the difference between China’s onshore and offshore currencies.  Now let’s discuss their separate bond markets.

Panda bonds are Onshore Renminbi (CNY) denominated bonds sold by foreign companies in mainland China.  These differ from Dim Sum bonds which are Offshore Renminbi (CNH) bonds sold in Hong Kong or any offshore clearing center. 

Offshore Dim Sum bonds were hit much harder than the onshore Panda bond market as a result of the weakness in China’s equity markets and the partial bursting of China’s credit bubble, as illustrated by these two charts.  On the left is a chart from Euromoney magazine on the offshore Dim Sum market, and the chart on the right is from the Wall Street Journal on the onshore Panda,

This chart from The Asset, a multimedia company focused on the financial services industry, shows the bond issuance of both side by side,

You can clearly see that the drop in Dim Sum bonds was not even close to being made up by the increase in Panda bonds. 

Potential Reasons

Now there are a few ways you could interpret why this is happening and what it means.  One interpretation is international companies with mainland operations don’t want to borrow RMB at all and are a bear on China.  While this has crushed the offshore market, they are borrowing on the mainland because the Chinese Central Bank is artificially suppressing interest rates to avoid a recession from its housing bubble’s slight cracking.  Since the offshore interest rate is more subject to market forces, it costs more to borrow.  According to a Thomson Reutersarticle on August 5, 2016, Panda bonds are on average 50-100 bps lower than their Dim Sum counterparts.

A second potential reason is that the Chinese government has increased regulatory burdens of transferring money between the two currencies, and thus companies operating on the mainland are trying to ensure easier liquidity.

A third interpretation is onshore bank lending is being restricted by the People’s Bank of China having loan limits.  So because mainland companies can’t get bank credit, they are instead of tapping into the bond market. 

Another variation of these themes is foreigners are scared of China’s rising national and local government debt. Because of this, they are dumping offshore bonds realizing the currency will be depreciated.  However, the onshore market is willing to borrow because they get the benefit of the artificially reduced interest rates that China must continue to suppress to service the rising debt.  The debtors don’t mind the depreciating currency, and the local Chinese investors may not have many other options due to the restrictive capital account.

A final wild interpretation is market participants anticipate divergences between the two exchange rates (CNY and CNH).  Realistically the divergence between the two forex rates is unlikely to be so large and to continue for so long as to justify this view but perhaps borrowers realize that the PBoC has large US Dollar reserves to defend the onshore rate while the Dim Sum market will be left out in the cold.

Equities?

What does the fragmented bond market mean for equities?  In the next article, we’ll look at the difference between China’s A-shares, B-shares, and H-shares.