China, wealth and weaker bonds

" We estimate the overall WMP-related leverage in China’s interbank market has eased."
David Qu & Raymond Yeung, China Markets Economist & Chief Economist Greater China, ANZ

An increasingly popular form of investment by these banks is wealth management products (WMP). Increasingly cautious about the potential risks of WMPs, Chinese authorities began to regulate the sector in 2016.

With GDP growth no longer a major agenda item for the government this year, we expect the deleveraging campaign to exert upward pressure on China’s bond yields over the medium term. Thus we continue to be bearish on China Government Bonds.

EASED

ANZ estimates the overall WMP-related leverage in China’s interbank market has eased the middle of 2016. Furthermore, authorities are likely to continue to tighten further as financial deleveraging has become a policy priority in 2017.

Besides regulatory tightening, the People’s Bank of China (PBoC) has also begun to re-price the cost of short-term funding in the money market.

This deleveraging campaign will exert upward pressure on China’s bond yields and we expect the 10-year CGB yield to reach 3.80 per cent by the end of 2017.

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CONVENIENT

By the middle of 2016, as much as CNY26 trillion had been raised through WMPs, equivalent to 18 per cent of all RMB deposits in the banking system, compared with CNY18.5 trillion (or 14 per cent of RMB deposits) a year ago.

WMPs have been convenient vehicles for banks to move loans off their balance sheets, typically in the form of entrusted investments and beneficiary rights.

In the past banks channelled funds to borrowers without being subjected to stringent regulatory requirements, such as the capital adequacy ratio (CAR) and liquidity coverage ratio (LCR).

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Over the past few years WMPs have become an important source of funding for Chinese borrowers who have difficulty obtaining traditional bank loans, such as corporates in industries facing overcapacity problems, property developers, and other corporates facing funding constraints.

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ANZ Research has developed a metric to estimate the overall WMP-related leverage in China’s interbank market. It found the level of leverage has eased to 112 per cent at the end of the first quarter of 2017 – down from a peak of 117 per cent in June 2016. That said some institutions still have relatively high leverage.

We believe the PBOC will continue to tighten this sector. Against this backdrop, the WMP funding chain will continue to be squeezed. Given their high exposure in the bond market, bond yields will likely be pushed up.

David Qu is a China Markets Economist and Raymond Yeung is Chief Economist Greater China at ANZ