Chinese assets warm, not hot for Western investors


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A clerk counts Chinese 100 yuan banknotes at a branch of China Construction Bank in Hai'an, Jiangsu province June 10, 2014. A clerk counts Chinese 100 yuan banknotes at a branch of China Construction Bank in Hai'an, Jiangsu province June 10, 2014.
A flurry of initiatives by China to open up its currency, stock and bond markets inside and outside the country has failed so far to allay international investor concerns about performance, accessibility and liquidity.
China has been working increasingly rapidly to liberalize its capital markets, with the eventual aim of making its currency fully convertible, giving it a larger role in the global economy.
As its markets open up, they can offer a similar appeal to investors to those enjoyed by many frontier markets - an appreciating currency over the longer term and potentially high returns for those willing to take an early punt.
Launched just four years ago, the overseas yuan bond market - or dim sum market - has already reached $120 billion, for example.
But the market has centered heavily around Hong Kong, even though countries such as Britain have made a concerted push to grab a share of this potentially lucrative market.
"The development of a significant secondary market for renminbi (RMB) bonds has yet to happen," a recent survey commissioned by the City of London said.
"There have been major issuances in London ... but the secondary market, after a flurry of activity in 2011 and 2012, has practically ceased," the report added, recommending more discussion between Britain and China on how to boost the market.
Recent developments include the appointment of China Construction Bank (601939.SS) as a yuan clearing bank in London, designed to aid liquidity in this market, the introduction of yuan/sterling trading and plans for yuan/won trade in Asia.
China has also expanded its quota system to enable international investors to buy China's onshore yuan, stock and bond markets. Outstanding quotas approached $100 billion last month.
And a Hong Kong-Shanghai stock investment program, due to be introduced later this year, will allow stock trading between the two cities, opening up access to China for international investors with a Hong Kong presence.
Yield hunger
China should be able to make the most of the worldwide hunt for yield, and its dim sum bond market has had a bumper first half.
Total new issuance - mainly but not exclusively from Chinese borrowers - of 358.6 billion yuan ($57.7 billion) this year is already close to the 2013 full-year total, according to Thomson Reuters data.
International investors don't need a quota to invest in this market, unlike the onshore market.
"It's a good easy first step for foreign investors," said Gregory Suen, investment director with HSBC Asset Management in Hong Kong.
Research by David Spegel, head of emerging markets sovereign and credit strategy at BNP Paribas, showed dim sum made up the bulk of this year's international emerging market debt issuance denominated in local currency.
China's decision this year to widen its yuan trading band, so adding more two-way trade into the market, has also indicated greater commitment to market forces.
But it has unnerved investors seeking a carry trade play on yuan appreciation - the currency CNY=CFXS has only recently started to reverse this year's falling trend.
In addition, looser monetary policy has cut the appeal for some investors, with dim sum yields of 4.4 percent below the average for emerging market local currency debt CNHI=HSBC.
"Given financial repression in China, and low to negative real yields ... we do not have a positive view on Chinese bonds at the moment," said Bryan Carter, lead portfolio manager for emerging debt at Acadian Asset Management in New York.
Equity woes
At a market capitalization of close to $4 trillion, the Chinese onshore A-share market is far larger than the H-share Hong Kong-listed market for Chinese shares, with a market cap of around $600 billion.
Emerging market fund Ashmore was the first asset management firm outside Hong Kong to gain a more flexible Renminbi Qualified Foreign Institutional Investor (RQFII) license to invest in mainland China.
"The local market is big, it's deep, it's broad, it's a much more diversified starting point than just the H-share market," said Julie Dickson, portfolio manager at Ashmore. "More and more investors are looking at it for the first time."
A-shares have slightly cheaper valuations than H-shares, investors say, and offer a much broader exposure - to smaller businesses, internet companies and others focused on China's consumption story.
But Chinese markets are also notorious for underperforming the economy's growth trajectory, which while slowing is still topping an annual 7 percent.
Chinese stocks have fallen again this year, depressed in part by the launch or expected launch of initial public offerings (IPOs), where most emerging stock markets have risen.
And in a sign that most investors are not yet ready for onshore Chinese markets, index compiler MSCI, with around $1.3 trillion benchmarked against its emerging markets index, last month suffered a setback in its plans to announce the inclusion of A-shares in the index.
Resistance from investors who did not have quotas to invest in this market mean the shares remain under review. 
Peter Elam Hakansson, chairman of East Capital which has an investment quota for Chinese markets, said the restrictions of the quota system meant most investors were not yet ready for benchmarking against an index containing A-shares.
"Maybe it was slightly too early," he said.

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