Justin Cowper, Head of Institutional, Asia Pacific Client Group, Ninety One:
The onshore China bond market has seen a significant broadening and deepening of issuance in recent years to become the second largest bond market globally, with a market capitalisation exceeding that of both German bunds and UK gilts. Index inclusions to flagship indices in 2019 and earlier this year have catalysed acceptance of this asset class into the investment mainstream.
China bonds provide investors with a diversified source of potential return and a significant yield premium compared with other asset classes. The decision by FTSE Russell to include China bonds in the WGBI is expected to inject another c$120bn of passive investment flows into China over the next two-to-three years. It also continues the mainstreaming of this asset class, evidenced by the country’s inclusion in other major bond indices such as the Bloomberg Barclays Global Aggregate Bond Index and the JP Morgan GBI EM Global Diversified Index. By including China, FTSE Russell acknowledged that ‘Chinese authorities have implemented significant improvements to the fixed income market infrastructure, facilitating easier participation by international investors. These market enhancements include: improving secondary market bond liquidity; enhancing the foreign exchange market structure; and developing global settlement and custody processes’.
Based on current projections, China’s eventual weight in the WGBI is expected to be c5.7%; similar to that of German bunds and above that of UK gilts.
Even before Chinese bonds started to enter mainstream market indices, improved foreign investor accessibility has spurred an increase in the number of overseas investors allocating to the asset class. Central banks and sovereign wealth funds started this trend, but today the investor base has expanded to include the wider global asset management community. This is thanks to a combination of improved market access and increased awareness among investors of the potential benefits to their portfolios of allocating to the asset class.
By the end of the first quarter of 2020, foreigners’ investments accounted for CNY 2.3 trillion (USD 328 billion) of the onshore CNY bond market, more than three times the amount seen five years ago.
Although it is growing, exposure to China is still relatively low in global bond portfolios. As foreigner investors gain more insight and comfort in this asset class, we believe that China bonds will feature increasingly in their portfolios. Therefore, we expect fixed income inflows into China to be a structural phenomenon in the years ahead.