Despite the plunge in the value of the renminbi earlier this year and growing concerns over China's long-term growth, the offshore renminbi bond market shows no signs of slowing down. Issuance volumes continue increasing annually, but most importantly the market is becoming more sophisticated.

Annual offshore renminbi bond supply in 2007 totalled Rmb10bn ($1.63bn). Fast-forward to 2014 and that figure, now including certificates of deposit (CD) issuance, has rocketed to Rmb406bn by mid-August. The offshore renminbi market’s development has been remarkable.

Signs of development are not limited to volume, however. The market is growing in depth and breadth, with a widening range of both investors and issuers entering the offshore renminbi (CNH) sector. Many are there to stay.

New products are being introduced at increasingly attractive prices for both buyers and sellers. The market is also expanding geographically, with Chinese policy innovation creating new CNH bond hubs and clearing centres – the current count is nine – worldwide.

On the up

Dim sum issuance

The offshore renminbi market has shown relentless annual growth in recent years. Only in 2010 overall annual 'dim sum' bond supply totalled Rmb36bn. By mid-August 2014, the figure had ballooned to Rmb180bn. Meanwhile, annual offshore renminbi CD issuance in 2010 was a mere Rmb6bn; the mid-August 2014 figure was Rmb226bn.

The offshore renminbi market has also proven incredibly resilient this year. Issuance volumes for 2014 have already grown year on year, despite volatility in the yuan. The Chinese currency lost 3.3% of its overall value in the first four months of 2014, eliminating all the gains recorded in 2013, as the People's Bank of China’s (PBOC's) attempted to normalise the renminbi foreign exchange rate and discourage speculation on the currency.

The renminbi’s value was Rmb6.05 to the US dollar on January 1, 2014, and the PBOC’s depreciation began at the end of that month. The currency dropped to its weakest point in early May, when it hit Rmb6.26 to the dollar. This was the most sustained renminbi foreign exchange decline since its landmark revaluation in 2005.

“The PBOC wanted to let investors know that it can easily intervene and kill any speculation on the currency. The central bank cannot and will not just let the yuan strengthen. People understand this and probably will not put too much on speculative positions anymore,” says one Hong Kong-based banker.

IFC-London affair

Among issuers worldwide, the International Finance Corporation’s (IFC's) CNH performance has been striking this year, maturing the sector further. In 2014, the IFC became the first multilateral institution to print a green bond as well as a benchmark-sized bond via the London Stock Exchange in offshore renminbi.

The IFC initially printed a Rmb1bn 2% three-year benchmark in March, which has since grown to Rmb2.75bn after increases of Rmb1bn and Rmb750bn. This marks the largest debt in renminbi ever listed on the London Stock Exchange.

In June 2014, the IFC also issued its debut sovereign supranational and agency (SSA) green bond in offshore renminbi – a Rmb500m 2% three-year note priced by HSBC. The deal marked the unlocking of a new investor base – green investors – in this market. The IFC’s success also helped to demonstrate London’s growing role as a CNH bond hub.

“The IFC trade was particularly significant since the treasury operation is based in Washington. It was another positive sign of the development of London’s renminbi market and of London’s comprehensive range of products and services in the currency,” says Mark Boleat, policy chairman at the City of London Corporation.

London also helped the IFC to encourage the renminbi’s further internationalisation – a goal that is part of the issuer’s mandate as promoter of its member states’ financial markets. “The UK treasury and government endorsed the deal and gave us a lot of support. London has gained strong credentials as the offshore hub for renminbi trade and settlements. It was the ideal setting to promote renminbi internationalisation further,” says Benjamin Powell, head of funding at the IFC.

Expanding investor base

Strong follow-up demand and the IFC’s record deal are testament to a broadening CNH investor base. The IFC’s top rating and strong name recognition worldwide were essential to the trade’s success, as it meant that books were not to be limited to the usual Hong Kong-based dim sum investor base.

“The investor base was much more diverse in this year’s issuance," says Mr Powell. “Bank treasuries were looking to use their deposits to buy renminbi assets, corporates were keen on putting their renminbi to work and central banks are putting their reserves in the currency to work too.” 

Central bank demand for CNH paper has been growing consistently over the past two years as they continue to build renminbi reserves. However, after the European Central Bank (ECB) surprisingly cut its benchmark interest rate to 0.05% in early September, yield-hunting European asset managers could also join the CNH space after shying away from low-returning core bond markets. This means the number of buy-and-hold investors in higher yielding, non-core sectors such as the offshore renminbi market could rise – testament to a more mature market.

“With the US dollar yield curve flattening and the ECB’s surprise cut flattening the euro curve further, renminbi outright yields are looking pretty attractive right now. When you have coupons for auctions such as Spain reaching new lows, it really limits opportunities for buyers to pick up yield in European markets,” says Sameer Rehman, director of international fixed-income syndication at financial services provider and investment bank TD Securities, which arranged the IFC's Rmb750m increase of its 2017 bond this year.

This is a point on which one Citi bond originator based in Hong Kong agrees: “There is growing overlap with US dollar investors. It makes sense... to buy something like three-year CNH paper since there is low interest rate risk and the coupons are better. A well-rated company printing US dollars in three years would offer a 2% to 2.5% coupon. The same trade in CNH would price at 4%.”

Price convergence

Offshore renminbi bonds are also becoming increasingly attractive on the supply side. The decision to come to market is still often based on the CNH-US dollar cross-currency swap. Issuers who do not swap CNH bond proceeds are still advantaged. The IFC is a case in point as it raises renminbi offshore and repatriates the funds to help support mainland China’s private sector. The borrower is also comfortable holding on to Chinese assets since they meet IFC’s liquidity management criteria.

“If the offshore cross-currency swap market moves and outright yields rally, it makes the pricing look expensive for issuers swapping the proceeds into other currencies,” says Mr Rehman.

However, market participants have seen a 100-basis points (bps) sell-off in offshore swaps since February this year. As offshore government bonds have not sold off to the same extent, the overall issuance price for borrowers who cannot keep CNH proceeds has improved. Pricing differential between CNH and core markets has therefore dropped from 50bps to 100bps to the 0bps to 50bps mark in the past 12 months, according to market participants.

Nevertheless, borrowers – especially top-rated names – which offer comparatively low yield, should be wary of pricing bonds too tightly. “One of the challenges for an AAA issuer is that experienced Asian investors push back when you price through the Chinese government curve. They are comfortable going for the sovereign over a borrower such as the IFC,” says Mr Powell.

In addition to price convergence between the CNH and core sectors, price differential between onshore and offshore markets is also narrowing. Chinese companies have historically preferred funding onshore via cheap bonds and bank loans. However, with liquidity tightening in the mainland, onshore funding costs have started to lose their allure. “The Chinese government ultimately wants to maintain gross domestic product growth and stimulate the economy. It needs to make sure interest rates are not too high,” says the Hong Kong-based Citi bond originator.

Chinese issuers could originally access three- to five-year onshore funding at a spread below the inter-bank lending rate. The price is now flat or 15 basis points above the rate, making CNH bonds a more cost-effective funding alternative, according to market participants.

Unicom, for instance, priced a Rmb4bn three-year offshore renminbi bond at 4% this year. “If Unicom had priced the same three-year trade onshore, it would have probably paid 5% to 5.5%, at least,” says the Citi bond originator.

Stretching the curve

High-quality investors and issuers combined with growing market liquidity are proving to be the best recipe for pushing maturity boundaries in CNH. “Liquidity is not a problem. Once CNH became a deliverable currency it was clear that banks had agreed there was sufficient underlying liquidity to ensure clearing. It shows how far this market has come,” says Mr Rehman.

The sector’s maturity ceiling was set at three years only three to four years ago. However, top-rated issuers can now comfortably print in five years and also consider extending their curves up to 10 years, as pioneered by Asian Development Bank in October 2010 with a Rmb1.2bn 2.85% 2020 bond.

“As a borrower, would you jump from three to 10 years right away? No, you would look to build a maturity ladder. But it is certainly a possible tenor, now more than ever,” says Mr Rehman.

The IFC looks set to take this route despite longer tenors not being economical in US dollar Libor terms. “We are looking to build our CNH curve and price longer trades – five, seven and even up to 10 years,” says Mr Powell.

Panda comeback

The CNH sector has grown relentlessly despite pressure from the depreciating renminbi and uncertainty over China’s long-term economic development. Market progress has been so promising that top issuers such as the Asian Development Bank and the IFC are also set on breaching the onshore market wall.

“We are working with the Chinese government on many fronts to allow this to happen. Since issuing the first 'panda' [onshore renminbi bond] back in 2005, the process has never looked more promising,” says Mr Powell.

With mainland policies such as China’s International Payment Platform poised to open up the country’s financial sector more than ever, market participants are feeling buoyant about the push forward of dim sum bonds and the viability of a panda comeback.

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