China’s $51 Trillion Savings Help Bonds Outperform Global Peers

China’s $51 trillion savings glut has fueled demand for its debt, entrenching its role as a haven as the Iran war drives global volatility.Author of the article:You can save this article by registering for free here. Or sign-in if you have an account.(Bloomberg) — China’s $51 trillion savings glut has fueled demand for its debt, entrenching its role as a haven as the Iran war drives global volatility. Subscribe now to read the latest news in your city and across Canada.Subscribe now to read the latest news in your city and across Canada.Create an account or sign in to continue with your reading experience.Create an account or sign in to continue with your reading experience.A basket of yuan-denominated high-grade debt — spanning government and corporate bonds — has been the best performer among all major Bloomberg fixed-income aggregate indexes this year, returning about 1.1%. Dollar bonds of high-quality Chinese issuers have also done better than US investment-grade credit and Treasuries over the same period.That strength is supported by $51 trillion of deposits — more than what lenders in the US, European Union and Japan hold combined — sloshing through China’s banking system in search of higher returns. With credit demand still weak, banks have limited scope to expand lending. Instead, they’re putting that extra cash into bonds, creating a persistent bid for high-quality debt.Get the latest headlines, breaking news and columns.By signing up you consent to receive the above newsletter from Postmedia Network Inc.A welcome email is on its way. If you don't see it, please check your junk folder.The next issue of Top Stories will soon be in your inbox.We encountered an issue signing you up. Please try againInterested in more newsletters? Browse here.China’s outperformance is symptomatic of its liquidity glut, said Trinh Nguyen, a senior economist covering emerging Asia at Natixis in Hong Kong. “That excess liquidity is being recycled into high-quality Chinese credit.”While Chinese regulators have advised banks to rein in their holdings of US Treasuries, Nguyen said that institutions are rotating into dollar-denominated credit of domestic borrowers, where yields remain more attractive than in local markets.China’s resilience is also gaining recognition among investors amid the Iran war, after its stocks and currency held up better than peers. Unlike other major oil importers exposed to surging energy prices, the country is cushioned by large strategic reserves, while its rapid expansion in renewable energy reduces vulnerability to supply disruptions.“What we’re really seeing is a shift toward a basket of defensive assets, and China investment grade has earned a place in that basket,” said Lei Zhu, head of Asian fixed income at Fidelity International. “Large, long‑term global investors increasingly view it as a structural diversifier rather than a short‑term, event‑driven trade.”Other factors, including low inflation and a large cohort of state-backed issuers in offshore markets, support the case for Chinese debt, she added. Record trade surpluses also leave banks with ample dollar liquidity to deploy.The robust demand for high-quality Chinese dollar debt, driven by local buyers, was on show again Wednesday. A financial arm of state-owned Aluminum Corp. of China offered an $800 million three-year dollar bond at just 22 basis points over Treasuries — less than a quarter of the premium similarly rated companies typically pay globally to sell such notes, according to a Bloomberg index.Rising demand for investment-grade Chinese debt marks a break from years of negative sentiment linked to the high-yield property sector, where falling real estate values have left millions of mortgages underwater. That shift is now showing up in how these bonds stack up against US assets. The average spread on Chinese investment-grade dollar bonds is about 53 basis points — about 25 basis points tighter than US high-grade corporates, Bloomberg indexes show. That’s a reversal from the past decade, when Chinese bonds traded at a premium of a similar size over their US counterparts.How the bonds fare from here will depend partly on how long the Middle East conflict lasts. China’s low inflation — in contrast to much of the world — keeps yields subdued and supports bond prices. An extended war poses a threat to growth and may prompt further rate cuts, according to Bloomberg Economics. This could put additional downward pressure on yields and lift bond prices.A key risk to the haven trade is that higher energy costs may trigger supply-driven reflation. Producer prices have already exited deflation in March after more than three years. Lynn Song, chief economist for Greater China at ING Bank, said it’s hard to justify 10-year government yields below 2% for an economy expected to grow around 4% over the next decade.Still, for investors seeking a hedge against volatility, China’s market offers diversification due to its relatively low correlation with global peers and prices tend to be driven more by policy. “China sort of has its own dynamic, which is good when a lot of the assets are moving always in the same direction,” Julio Callegari, chief investment officer of Asia fixed income at JPMorgan Asset Management said in a recent Bloomberg Television interview. “China rates is a good source of diversification.”(Updates with additional details in ninth paragraph)Postmedia is committed to maintaining a lively but civil forum for discussion. Please keep comments relevant and respectful. Comments may take up to an hour to appear on the site. 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