From the publishers of Q2, 2017

Bond Connect welcomesforeign investors to China

A sample of GlobalRMB coverage over the past quarter

Bond ConnectPage 4

MSCIPage 6

Bonds and FXPage 13

Belt and RoadPage 20

GlobalRMB launched in 2014 to provide in-depth coverage of the renminbi’s internationalisation journey. A decade has passed since the creation of the

o�shore RMB bond market, but in that time China has managed to drastically liberalise access to its onshore capital market, opening up its markets to

global debt and equity investors alike.

To celebrate the market’s achievements, look out for GlobalRMB’s inaugural awards later this year, as well as special market leading reports and roundtables.

For subscription information, please contact: mark.goodes@globalcapital.comFor sponsorship information, please contact: james.andrews@globalcapital.com

GlobalRMB 3

LETTER FROM THE EDITOR

The latest GlobalRMB quarterly digest is being published at a momentous time for China's capital markets and – by re�ection – this publication.

For the past two and a half years, we tracked China’s attempts to internationalise its currency, provided insight into the country’s capital markets, and talked to a mix of issuers, investors, regulators, bankers and lawyers about just where these e�orts were heading.

In the weeks before this edition was published, we appeared to get an answer.

China's breakneck pace of regulatory reform resulted in the Bond Connect scheme on July 3, a dazzling move that throws open the doors for debt investors to the onshore market. The inclusion of A-shares in the MSCI Emerging Markets index – a long-awaited decision – means equity inves-tors have equal cause for cheer.

China’s government has rewarded our keen focus on regulatory issues, as well as that of the mar-ket participants we speak to every day. GlobalRMB has covered Bond Connect, Stock Connect and the MSCI inclusion for years, providing our readers with regular updates on what these moves meant for the Mainland markets.

But as China’s approach changes, we will change too.

The major question facing investors and issuers considering the onshore renminbi market over the last few years has been one of access. These questions have certainly not been answered in their entirety, but China’s embrace of international capital means new, fresh questions are arising.

How should international investors track credit risk in the Chinese market? How important is a diverse investor base for deals that can too o�en end up on banks’ balance sheets? How should investors and issuers navigate the multiple bond markets available to them, each with a separate regulator that has distinct strengths and weaknesses?

Perhaps most fundamentally, should international investors and issuers rush into the market? Or is it best to wait, taking a slow-and-steady approach to a market that promises to be there for many years to come?

GlobalRMB can make a pledge to its readers. We will do our best to tackle each and every one of these questions. We will also continue to ask new ones, seeking answers from every side of the market.

The last three months have been quite a ride for the renminbi capital and �nancial markets. But the future promises to o�er even more impressive vistas.

We hope you will join us on the journey.

Paolo DaneseEditorGlobalRMB

4 GlobalRMB

BOND CONNECT

Bank of China Hong Kong Asset Management (BOCHK AM) said it had become the �rst institu-tion to trade under the scheme,

executing trades for its discretionary investment mandates through BOCHK.

The asset manager completed a buy order for Chinese government bonds and one for corporate bonds, as well as the related CNY FX spot trade. The bank also underwrote a new issue of CNY bonds by Agricultural Development Bank of China (ADBC) — the �rst bond to price following the launch of the scheme.

“Bond Connect will enhance the cross interactions between the onshore and o�shore bond markets, facilitate the development of credit derivatives in Hong Kong, and create more favourable conditions for the further development of Hong Kong’s bond market,” said Shen Hua, chief executive of BOCHK AM.

HSBC also completed its �rst deal as one of the Bond Connect market makers on Monday. The bank was an underwriter on ADBC’s issue and said it will under-write another deal by China Development Bank on Tuesday.

It is clear there is plenty of room for foreign investors to increase their expo-sure to China’s domestic bond market.

“Despite China being the world’s third-largest bond market, overseas investors currently own less than 2% of it,” said Helen Wong, HSBC’s Greater China chief executive, in a statement. "The enhanced ease of investment under Bond Connect will attract more over-seas funds, creating a more diversi�ed investor base and further enhancing the market’s size and depth. This will help pave the way for China bonds to be included in major global bond indices in the future.”

HSBC said it will also provide bond custody and settlement services, foreign currency exchange and risk management to foreign investors looking to trade under Bond Connect.

Investors and service providers were ready despite actual con�rmation of the debut coming within only 48 hours before the launch. The Bond Connect joint venture company noted the scheme would launch on July 3 in its trading calendar but the two regulators — the Hong Kong Monetary Authority and Peo-ple's Bank of China— only issued a joint con�rmation of the launch date on July 2, a Sunday.

BROADENING ACCESSBond Connect enables o¥cial investors including central banks, monetary au-thorities and sovereign wealth funds to tap the bond link, as well as opening the market to �nancial institutions including commercial banks, insurance companies and fund management companies.

DBS noted that the FX arrangements of the scheme will put less pressure on the o�shore renminbi liquidity than the Stock Connect schemes that have already

been launched between Hong Kong, Shenzhen and Shanghai.

“Unlike the stock links, which only allow o�shore FX conversion, investors have been granted access to the onshore FX market under the bond-trading link,” the bank said. "[This] puts less pressure on Hong Kong’s yuan deposit pool, which has fallen 47% to Rmb524.8bn in May 2017 from Rmb1tn in December 2014."

The Chinese authorities had also taken the last-minute step of giving foreign inves-tors the option to choose whether to settle trades on T+0, T+1 or T+2, simplifying trad-ing for investors in non-Asian time zones.

But despite the �exibility, DBS remained cautious on early take-up.

"The initial in�ow, however, is expected to be limited due to investors’ concerns over liquidity and capital controls," the bank wrote. "Longer term, it would be crucial to consolidate the new bond link with other existing investment schemes i.e. QFII, RQFII and CIBM Direct to improve market e¥ciency.”

OCBC’s economist Carie Li agreed that the scheme was unlikely to see substantial �ows in its early days.

“[We] think Bond Connect also faces two key hurdles including volatile CNH funding costs and lack of hedging details,” she wrote. "The currency hedging [through derivatives] can only be done in the o�shore market under Bond Connect. Although potentially investors may be able to hedge in CNY with an o�shore participant bank which subsequently has access to onshore interbank FX market, the lack of details on hedging may a�ect interest given high CNH hedging cost.”

Bond Connect goes live less than two weeks a�er index provider MSCI announced it would include onshore stocks in its emerging markets index. ◼

Banks kick o� Bond Connect tradingInternational banks were up and running on the new Bond Connect scheme minutes a�er it opened for business. But analysts think it is unlikely the bond link will start with a bang. Paolo Danese, 03 Jul 2017.

The initial inflow is expected to be limited due to investors’ concerns over liquidity and capital controls.

GlobalRMB 5

BOND CONNECT

The lowdown: PBoC claries Bond Connect rulesOn Thursday, the People’s Bank of China provided some clarity on the operational details of the upcoming Bond Connect scheme. The rules make clear who will be permitted to use the bond link and which electronic platforms investors will be able to trade on. Here’s our summary of the scheme’s key features. Noah Sin, 23 Jun 2017.

Who can use the Bond Connect?

Central banks, monetary authorities, sovereign wealth funds, international financial organisations, qualified foreign institutional investors (QFIIs) and RMB QFIIs will be able to use the bond link.

Offshore financial institutions, such as commercial banks, insurance companies, securities companies, fund management companies and other asset management institutions, can also trade via Bond Connect.

The second group of financial institutions can distribute investment products to their clients. The rules list the likes of medium to long-term institu-tional investors recognised by the PBoC, such as pension funds, philanthropic funds and donation funds, as potential clients.

Which institutions can register foreign investors for Bond Connect?

China Foreign Exchange Trade System (CFETS), onshore custodians and CIBM settlement agents can register on behalf of offshore investors. These institutions can directly register for investors, or they can co-operate with offshore institutions to collect the relevant materials for registration.

Who will be the custodians?

The Hong Kong Monetary Authority’s Central Moneymarkets Unit (CMU) will be the offshore custodian. China Central Depository and Clearing (CCDC) and the Shanghai Clearing House will be the onshore custodians.

Which bonds can investors buy?

Foreign investors can buy bonds in both the primary and secondary markets. All cash bonds on the interbank bond market will be available.

In the future, Bond Connect will expand to cover transactions such as bond repur-chasing agreements (repo), bond lending, bond forwards, interest rate swaps and forward rate agreements.

Which platforms will investors trade on?

O�shore trading platforms, including but not limited to Tradeweb and Bloomberg, will be welcome to provide Bond Connect trading services when they are ready, said the PBoC. CFETS will be the onshore trading platform.

Bond Connect will apply the model com-monly used in the international markets, with onshore dealers, which include market makers and volunteer market makers, trading with o�shore investors.

What are the rules and restrictions for using RMB and foreign currencies?

O�shore investors can use RMB capital that they have accumulated, raised or exchanged in the o�shore RMB market to invest via Bond Connect.

In its May 31 dra�, PBoC noted that foreign investors using FX will be able to convert their capital into RMB, either via the Hong Kong RMB clearing bank or via overseas banks conducting o�shore RMB business that are quali�ed to access the onshore interbank FX market.

The latest batch of rules speci�ed that the Hong Kong RMB clearing bank is

Bank of China (Hong Kong), appointed to the role in December 2003, and that the second category of Hong Kong RMB banks includes China Citic Bank Interna-tional, China Construction Bank (Asia), Hang Sang Bank, HSBC, Industrial and Commercial Bank of China (Asia), and the Hong Kong branches of Agricultural Bank of China, Bank SinoPac, China Merchants Bank, Citi and Standard Chartered.

When the bonds mature or are sold, the RMB capital — which includes the prin-cipal and income from the bonds — can be used to invest in onshore bonds again. However, if the capital will not be used for that purpose, it must be exchanged into foreign currencies via the Hong Kong clearing banks.

Will investors need special RMB accounts to trade? What if they can’t set one up in time for the launch?

Regulators will require investors to open special RMB accounts at the Hong Kong clearing banks to deal with currency exchange and settlement issues.

Considering that northbound trading will launch soon — GlobalRMB under-stands the launch date will likely be July 3*. If the Hong Kong clearing banks cannot set up special RMB accounts for Bond Connect investors in time, investors will be allowed to use their own RMB accounts temporarily. But the banks will need to try to set up special RMB capital accounts for them as soon as possible.

For o�shore investors who use their own RMB to invest, and do not need to exchange into foreign currencies, there is no need to go through the clearing banks. ◼

* This turned out to be the case.

6 GlobalRMB

MSCI

MSCI marries into A-shares, ups weighting in EM indexIndex provider MSCI decided it was time to include A-shares in its emerging markets index, making the announcement on June 21. Chinese onshore stocks will make up 0.73% of the MSCI Emerging Markets index starting May 2018. Noah Sin, 21 Jun 2017.

The index provider said its pos-itive decision, following three consecutive negative ones, had the broad support of the investor

base given improvements in accessibility to the onshore A-shares market, which had been a key concern high-lighted by previous market classification reviews.

“[This is] primarily as a result of the positive impact on the accessibility of the China A market of both the Stock Connect programme and the loosening by the local Chinese stock exchanges of pre-approval requirements that can restrict the creation of index-linked investment vehicles globally,” MSCI said in a statement.

The pre-approval requirement had been a central point in last year's decision to not include A-shares, but MSCI said through a spokesperson that it has since come to an agreement with the Chinese authorities so that no broad regional or local products based on MSCI indices would be impacted by such restrictions.

"That is the change that led us to this inclusion, as [that agreement] clearly accommodates the inclusion at a 5% weighting factor so that products would not be impacted," an MSCI spokesperson told media on a conference call.

PROGRESS MADERemy Briand, chairman of the index policy committee at MSCI, said investors embraced the progress made by China and that conditions were set for a first inclusion.

“The expansion of Stock Connect has been a game changer for the market opening of China A-shares,” he said.

A total of 222 A-shares stocks will make the cut into MSCI EM, more than the 169 outlined in the March consulta-tion by the firm, which will give A-shares a weight of 0.73% in the index. The A-shares expand Chinese firms' total weighting in the MSCI EM index, where they will now have a weighting of 28% between onshore and offshore listed firms.

Market participants noted the deci-sion was momentous from a long-term perspective.

“On a 10-year view, this decision is very significant,” Wendy Liu, head of China equity research and chief strate-gist for Greater China at Nomura, said in a statement. “This marks the beginning of A-shares, the biggest EM equity market by market cap and trading volume, join-ing the pool of investable assets to global investors."

The implementation timeline will be a phased one, starting in May 2018 and fol-lowed by a second step in August 2018. This will give investors time to adjust their portfolios, an MSCI spokesperson told GlobalRMB during a media call fol-lowing the announcement.

"Whenever we do a transition of that magnitude we see a number of market participants using these indices to tran-sition on their own schedule," he said. "These indices will be used by a reasona-ble number of our clients."

The spokesperson also estimated that $17bn-$18bn in inflows to A-shares are likely to be derived from today's deci-

sion. But, once China goes from a 5% to a 100% inclusion factor, that number could be as high as $360bn for passive investors alone, according to MSCI.

ROAD AHEADA spokesperson at China Securities Regulatory Commission (CSRC) praised MSCI's decision, hinting that reform in the equity market may follow.

"The Chinese capital market will certainly welcome foreign investors in an even more open fashion," CSRC said in a statement posted on its website. "CSRC will work with the relevant parties to improve the relevant institutions and rules for foreign investors investing in A-shares, making it easier for foreign investors to invest in A-shares, including by tracking MSCI indices."

The roadmap for a further expansion of A-shares weight in the index will depend on reform progress in China in a few areas.

"When further alignment with inter-national market accessibility standards occurs, sustained accessibility is proven within Stock Connect and international institutional investors gain further expe-rience in the market, MSCI will reflect a higher representation of China A shares in the MSCI Emerging Markets Index," Briand said in the statement. "MSCI is very hopeful that the momentum of pos-itive change witnessed in China over the past years will continue to accelerate."

Should there be progress on those issues, MSCI said it was likely to launch a further public consultation on A-shares, although it declined to provide a possible timeline. ◼

GlobalRMB 7

MSCI

MSCI noted in the announcement and statements to media that the two turning points in its decision were the launch of the Shenzhen

Connect, which further increased the acces-sibility of A-shares, and the relaxation of the licensing requirements for index products containing A-shares.

But the index provider made very clear that if China hopes to see its inclusion increase from the low level of 5% and to include mid-cap stocks, it will have to address outstanding concerns.

MSCI said these concerns include the need for greater alignment of China’s A-shares market with international market accessibil-ity standards, verifying the resilience of the Stock Connect trading system, relaxation of Stock Connect daily trading limits, continued progress on trading suspensions and, lastly, further loosening of restrictions on the crea-tion of index-linked investment vehicles.

"Still a long to-do list," HSBC wrote in a note to clients on Wednesday. "Much work still needs to be done by regulators to address remaining concerns about the A-share market, including widespread trading suspensions, stock pledging, selling pressure from insiders, and corporate governance. We believe that it is in everyone’s interest — MSCI, the Chinese government and investors — to correct the mismatch between global funds’ exposure to Chinese equities and Chi-na’s importance to the global economy."

UBS noted that China remains the country with the highest number of suspended stocks in the world since the market rout of 2015. Around 40 stocks were excluded from the �nal list of selected A-shares — with 222 stocks making the cut — because they had

been suspended for more than 50 days in the past 12 months, based on the rules MSCI proposed this March.

"Market participants would like to ensure ongoing investability and index replicability and minimise potential liquidity risk result-ing from prolonged suspensions," wrote Hyde Chen, an analyst at UBS.

The pre-approval issue regarding the creation of index-linked investment vehi-cles is particularly poignant, as the Chinese authorities’ reluctance to give in to MSCI so far is symptomatic of their broader fears over loosening their grip on the country's markets.

“Before it was di¥cult to have products like A-shares futures outside of China because of the pre-approval requirements, but these products are needed for liquidity and ease of investments into the market,” Minny Siu, a partner at law �rm King & Wood Mallesons, told GlobalRMB. “MSCI has said there would be a relaxation on this, so there is some comfort that o�shore investors will have access to A-share futures contracts in due course.”

Despite the positive outlook, investors would watch out for any attempts by the Chi-nese exchanges and regulators to in�uence or constrain the launch of new A-share linked products, according to UBS' Chen.

THE BIG PICTURESome noted that the issue is not so much with speci�c technical changes but rather the persistence of capital controls in China.

"Internationally over the long-run, the pace at which an emerging stock market is included in the MSCI Emerging Market Index is related to the magnitude of liberalisa-tion of its capital market," Ronald Chan, chief investment o¥cer of equities in Asia ex-Japan at Manulife Asset Management, said in a note. "Markets implementing foreign exchange control are usually included in the MSCI Emerging Market Index on a gradual basis, which can take about seven to 10 years.”

Khoon Goh and Raymond Yeung, econo-mists at ANZ, said it was the regulators' turn to show goodwill.

"The continued opening up of China’s onshore �nancial markets and increased foreign investor participation means China will be incentivised to further improve its regulatory transparency and oversight. The more progress that Chinese regulators make on liberalisation, the greater the potential for further inclusion."

In the short run, regulators may look at taking a �rst step, which could involve removing the daily trading quota of Rmb13bn on each of the two northbound Stock Connect channels, a�er removing the aggregate trading quota for the scheme at the end of 2016. ◼

MSCI A-share inclusion presents China with to-do listChina got another big win on the global stage on Wednesday when MSCI �nally decided to add A-shares to its emerging markets index. But the Chinese authorities cannot rest on their laurels. The small weighting given to A-shares by MSCI is just one indication of how much China still has to do to upgrade its capital markets. Paolo Danese, 1 Jun 2017.

There is some comfort that offshore investors will have access to A-share futures contracts in due course.

8 GlobalRMB

MSCI

I've been living on another planet. What did MSCI do?

MSCI announced that a list of large-cap A-shares — stocks of Chinese �rms listed either on the Shanghai or Shenzhen stock exchanges — will enter the MSCI EM index. MSCI �rst began its review on whether to include A-shares four years ago, but each year since it declined to include them because of concerns around how easily foreign investors could access the market.

What reasons did MSCI give for its positive decision?

There were two key changes from a year ago. The �rst has been the launch of the Shenzhen Connect arm of the Stock Connect scheme in December 2016, which links the Hong Kong market with the second largest stock market in China, where many so-called new economy stocks are listed.

The second change was an agreement between MSCI and the authorities that onshore exchanges will not force index product providers, such as exchange-traded fund providers, to seek approval from them before launching products containing A-shares.

MSCI changed its tactics slightly this year, by focusing on stocks accessible through Stock Connect, which has a very low barrier to entry and guarantees that an investor seeking A-share exposure will be able to obtain access without needing onshore trading accounts or

gaining special licences from the Chinese authorities.

Why should I care?

Despite a small weighting of 0.73% of the total MSCI EM index, the inclusion means that RMB-denominated equities will now become part of an index owned by a wide range of investors around the world — from large o¥cial institutions to pension funds and to individual retail investors. This is a signi�cant win for China and investors around the world will need to come to terms with it.

What does this mean for investors?

The decision still gives global investors until May 2018 to begin rebalancing their portfolios, when half of the inclusion factor for A-shares becomes e�ective, with the transition completing in August 2018. While many investors will need this time to begin setting up front and back o¥ce sys-tems to buy into the A-share market, there is a long list of global and regional investors that have already taken the dip through existing access programmes such as Stock Connect and the RMB quali�ed foreign insti-tutional investor (RQFII) scheme.

When will the updated indices become e�ective?

The new indices become fully e�ective in August 2018. However, MSCI is making available two provisional indices, one starting today — which is the MSCI China A

International Large Cap Provisional Index — and the MSCI China and MSCI Emerging Markets Provisional Indexes starting August 2017.

These indices will allow index investors that want to begin their transition with ease to start investing in A-shares ahead of the August 2018 deadline.

How many A-shares will become part of the MSCI EM index?

The full list comprises 222 stocks. This is more than the 169 which had been �rst proposed in March as part of an earlier MSCI consultation. The change is due to the inclusion of a group of dual-listed stocks in China and Hong Kong, which MSCI said investors were happy to see included.

The list is nonetheless much smaller than last year when the proposal was to include the 431 stocks that made up the MSCI China A index. The stocks that were not eligible to trade under the Stock Connect were removed in the 2017 consultation.

So far so good, but what does this mean for China, markets and the world?

China gets a win because its stocks become part of a widely used index. MSCI wins in a way by making its indices more representa-tive of the global �nancial markets — China is a�er all the second largest economy in the world, with the second-largest stock market and third largest bond market. As for everyone else, it is just one more signal that China is integrating with the rest of the world. ◼

The lowdown: All you need to know about MSCI and ChinaGlobal index provider MSCI announced on Wednesday that it will begin including Chinese A-shares in its emerging markets index, giving its blessing a�er three consecutive rejections. Here is GlobalRMB’s lowdown on what you need to know about the upcoming inclusion. Paolo Danese, 21 Jun 2017.

It’s the same playbook, just with a dif-ferent name. In October 2016, the IMF’s board decided that the RMB met the technical criteria to become a special

drawing rights (SDR) currency. The cur-rency got an 11% weighting in the basket, joining the company of the dollar, euro, yen and pound.

The IMF’s reasoning was based on the strictly technical review of the SDR criteria — speci�cally that the currency should belong to a country with substantial exports and that its currency should be widely used beyond the domestic market. For the IMF, the data showed that the RMB ticked these two boxes.

For China bulls, the SDR entry was a great victory for the renminbi interna-tionalisation agenda, giving it a stamp of reserve currency-level worthiness.

For others in the market, however, the decision had more sinister overtones. They argued that the IMF had essentially chosen a currency that was not fully �oating. A rising one for sure, but far from a currency nearly as popular as the dollar or any of the others previously in the IMF basket.

Now fast forward to MSCI’s decision this week to make A-shares a part of its EM index, which has some $1.6tr in assets benchmarked to it. Just like with the IMF, giving the A-shares a mere 0.73% weighting in the index does not, at least on the face of it, smell of appeasement.

Yet, unsurprisingly, some commentators have been quick to point out that China has not really made enough e�ort to deserve such an inclusion and that MSCI, in short, was making a mistake by letting global investors anywhere near risky A-shares,

which have had a patchy and volatile per-formance history.

On the �ip side, and equally unsur-prising, are the permabulls. China scored another major victory, they said, crowning a decade-plus of reform e�orts.

THE EMOTIONAL FACTORChina, it seems, has the ability to produce ever growing armies of fans and haters at every step it takes towards full integration in the global economic system.

But the funny thing is, there is really no reason to be in either camp. Cheering or hating will not change the fact that China’s rise as an economic and political power, and its consequently greater role globally, is inevitable.

That inevitability should invite calm and re�ection about the �ne print of how the changes take place, which is where global experts should really weigh in. Instead, more o�en than not, the media and market commentators are more interested in going straight for one of two things: that either everything from China is awesome or everything is a disaster that threatens to unleash chaos on the world.

It would instead be better and more pro-ductive to take these steps by the IMF and MSCI for exactly what they are — steps.

By leaving the emotional factor at the door, you can see that they are neither unconditional victories for China nor plain defeats for the rules of the global �nancial markets. They are rather opportunities that can be leveraged or missed. Opportunities for China to become further involved in the institutions that it joins, in a process that, also inevitably, will alter the course of its policy agenda. And they are opportunities for the rest of the world to get its hands dirty and get to know China up and close, something that is still sorely lacking, espe-cially outside of Asia.

The MSCI is a perfect example of that, with investors and money managers worldwide now having to slowly build the research and knowledge base required to accomplish the transition to the new MSCI EM index that becomes e�ective in August 2018. Hard to see a threat in that, given the tiny weight given to Chinese stocks, but much more reasonable to accept the inevi-tability of that process and act accordingly.

China is on the map now and it will not go away. What the market needs to do is deal with it constructively. ◼

China bulls and bears: embrace the inevitableThe MSCI’s decision on June 21 to include A-shares in its Emerging Markets Index has, once again, unleashed furious debate between those seeing it as another case of global institutions bending the rules to appease China and those viewing the China glass as half full. But neither view has much to o�er in explaining the Mainland’s growing integration in global �nancial markets. Paolo Danese, 23 Jun 2017.

GlobalRMB 9

MSCI

By leaving the emotional factor at the door, you can see that they are neither unconditional victories for China nor plain defeats for the rules of the global financial markets. They are rather opportunities that can be leveraged or missed.

DATA PAGE

GlobalRMB 11

OFFSHORE RMB DEPOSITS (in Rmb bn)2,000

1,800

1,600

1,400

1,200

1,000

800

600

400

200

0

SOURCE: GlobalRMB, CEIC

Jan-13 Mar-13 May-13 Jul-13 Sep-13 Nov-13 Jan-14 Mar-14 May-14 Jul-14 Sep-14 Nov-14 Jan-15 Mar-15 May-15 Jul-15 Sep-15 Nov-15 Jan-16 Mar-16 May-16 Jul-16 Sep-16 Nov-16 Jan-17 Mar-17

Hong Kong Singapore Taiwan South Korea Macau UK TOTALAustralia

RENMINBI DEPOSITS: Hong Kong1,200

1,000

800

600

400

200

0

SOURCE: CEIC

Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Jan-17

A close look at global CNH depositsThe amount of CNH held in the key o�shore RMB hubs has fallen 45% from the June 2015 peak.

DATA PAGE

12 GlobalRMB

China MoF completes rst CNH auction of 2017Ministry of Finance closed its latest auction for Rmb7bn on June 22, 2017.

SHORT END STILL DOMINATESOrders and issue volumes for China MoF sovereign o�shore renminbi auctions*

40,000

35,000

30,000

25,000

20,000

15,000

10,000

5,000

0

SOURCES: HKMA, GlobalRMB

Oct 09 Nov 10 Aug 11 Jun 12 Jun 13 Nov 13 May 14

2y 3y 5y 3y 5y 10y 3y 5y 7y 10y 3y 5y 7y 10y15y 3y 5y 7y 10y 15y 30y 3y 5y 3y 5y 7y 10y 15y 20y 3y 5y 10y 3y 5y 7y 10y 15y 30y 3y 5y 10y 20y 3y 5y 7y 10y 20y 3y 5y 10y 15y 30y 3y 5yTenor

Rmb m

Issuance Oversubscription

Nov 14 May 15 Nov 15 Jun 16 Dec 16 Jun17

* institutional tranches only. Excludes the following tranches: Rmb3bn 2y retail in Nov 10; Rmb5bn 2y retail in Aug 11; Rmb5.5bn 2y retail and Rmb2bn central bank (all tenors) in Jun 12; Rmb3bn central bank (all tenors) in Jun 13; Rmb3bn 2y retail in Nov 13; Rmb2bn central bank (all tenors) in May 14; Rmb3bn 2y retail in Nov 14; Rmb2bn central bank (all tenors) in May 15; Rmb2bn central bank and Rmb2bn retail in Nov 15; Rmb2bn central bank (all tenors) in Dec 16; Rmb2bn 2y retail in Dec 16

THIRTEENTH AUCTION – Jun 22, 2017 Tenor Coupon Sold Demand 3y 3.99 5bn 12.9bn 5y 4.1 2bn 4.76bn Total 7bn

TWELFTH AUCTION – Dec 8, 2016 Tenor Coupon Sold Demand 2y (retail) 3.5 2bn 3y 3.4 5bn 12.5bn 5y 3.55 3bn 6.4bn 10y 3.85 1bn 2.2bn 15y 4.15 0.5bn 0.9bn 30y 4.4 0.5bn 0.9bnCentral bank tranche 2bn Total 14bn

ELEVENTH AUCTION – Jun 29, 2016 Tenor Coupon Sold Demand 3y 2.9 7bn 24.5bn 5y 3.25 4.5bn 11.9bn 7y 3.3 1bn 3.2bn 10y 3.38 1bn 3.7bn 20y 3.9 0.5bn 1.3bn Total 14bn

TENTH AUCTION – Nov 26, 2015 Tenor Coupon Sold Demand 2y (retail) 3.45 2bn 3y 3.29 5bn 12.9bn 5y 3.4 3bn 7bn 10y 3.31 1bn 3bn 20y 4 1bn 1.8bn Central bank tranche 2bn Total 14bn

NINTH AUCTION – May 20, 2015 Tenor Coupon Sold Demand 3y 2.8 5bn 17bn 5y 3 3bn 9.5bn 7y 3.36 1.5bn 3.7bn 10y 3.39 1.5bn 3.2bn 15y 3.6 0.5bn 1.7bn 30y 4.1 0.5bn 1.1bnCentral bank tranche 2bn Total 14bn

EIGHTH AUCTION – Nov 20, 2014 Tenor Coupon Sold Demand 2y (retail) 2.93 3bn 3y 2.74 4bn 17.2bn 5y 3 3bn 8.9bn 10y 3.38 2bn 7.7bn Total 12bn

SEVENTH AUCTION – May 21, 2014 Tenor Coupon Sold Demand 3y 2.53 7bn 23.3bn 5y 3.25 4bn 11.4bn 7y 3.8 1bn 2.4bn 10y 4 1bn 2.6bn 15y 4.29 0.5bn 1.1bn 20y 4.5 0.5bn 1bn Central bank tranche 2bn Total 16bn

SIXTH AUCTION – Nov 21, 2013 Tenor Coupon Sold Demand 2y (retail) 2.8 3bn 3y 2.6 5bn 20.5bn 5y 3.09 2bn 5.3bn Total 10bn

FIFTH AUCTION – Jun 26, 2013 Tenor Coupon Sold Demand 3y 2.87 5bn 10.7bn 5y 3.02 2bn 4.8bn 7y 3.09 1bn 2.8bn 10y 3.16 1bn 2.1bn 15y 3.6 0.5bn 1.2bn 30y 3.95 0.5bn 1bnCentral bank tranche 3bn Total 13bn

FOURTH AUCTION – Jun 28, 2012 Tenor Coupon Sold Demand 2y (retail) 2.38 5.5bn 3y 1.85 7bn 31.2bn 5y 2.56 5.5bn 16.9bn 7y 2.65 1bn 4.8bn 10y 3.1 1bn 3.0bn 15y 3.48 1bn 2.7bn Central bank tranche 2bn Total 23bn

THIRD AUCTION – Aug 17, 2011 Tenor Coupon Sold Demand 2y (retail) 1.6 5bn 3y 0.6 6bn 37.7bn 5y 1.4 5bn 17.1bn 7y 1.94 3bn 9.3bn 10y 2.36 1bn 5.2bn Total 20bn

SECOND AUCTION – Nov 30, 2010 Tenor Coupon Sold Demand 2y (retail) 1.6 3bn 3y 1 2bn 29.6bn 5y 1.8 2bn 14.1bn 10y 2.48 1bn 5.5bn Total 8bn

FIRST AUCTION – Oct 10, 2009 Tenor Coupon Sold Demand 2y 2.25 3bn 3y 2.7 2.5bn 5y 3.3 0.5bn Total 6bn

CNH BONDS

A three year tranche, which was the shortest dated portion, attracted Rmb12.9bn ($1.89bn) in bids for a Rmb5bn issue size, according to

data published by the Hong Kong Monetary Authority on Thursday. This tranche was priced with a coupon of 3.99%.

A �ve year tranche was priced at a coupon of 4.10%. This had Rmb4.76bn in bids coming in for an issue size of Rmb2bn.

The bids came in at a coupon range of 2.50%-3.99% for the three year and 3.50%-4.10% for the five year.

Analysts had expected good demand for this auction, but the final coupons exceeded expectations. Becky Liu, head of China macro strategy at Standard Chartered, forecast that the three year tranche coupon would hit 4%-4.10%, and the five year tranche 4.15%-4.25%.

"We expect solid demand at this auction on improved bond valuations, a better FX outlook, reduced [CNH bond] supply and a less hawkish People’s Bank of China," wrote Liu in a June 20 note.

Frances Cheung, head of rates strategy for Asia ex-Japan at Société Générale, told

GlobalRMB that the upcoming Bond Con-nect scheme, which will widen access for foreign investors to China's �xed income market, played a role in determining yields.

"With access to the onshore market [through the upcoming Bond Connect], you [the issuer] need a premium in order to attract investors to accumulate o�shore bonds,” she said.

O�shore yields fell below the onshore levels in May, Bank of China noted in its credits investment and �nancing environ-ment di�erence index (CIFED). However, onshore three and �ve year treasuries were yielding 3.50% and 3.52%, respectively, as of Thursday. That means a 50bp premium on onshore yields.

"[The coupons] were nearer to the o�-shore rather than onshore yields," Cheung added.

She predicted correctly that the �ve year note would be priced within 4.1%-4.25%, but had the expected the three year tranche at 4%-4.15%.

The lack of CNH liquidity was also a factor, Cheung wrote on Wednesday. "The

o�shore CNH deposit base is unlikely to rebound strongly as long as China does not loosen capital �ows," she said. "In view of the onshore competition and small CNH liquidity pool, bond investors will demand higher yield premiums."

StanChart's Liu observed that the Rmb7bn proceeds from Thursday's auction will be more than o�set by maturing bonds from previous auctions. About Rmb8.4bn of MoF's CNH bonds matured on May 22 and another Rmb6.1bn bond will mature on June 29.

The MoF is also issuing its �rst dollar bond in over a decade in H2 2017 for the equivalent of Rmb2bn.

Helen Qiao, chief Greater China econo-mist at Bank of America Merrill Lynch, told GlobalRMB that this could be the �rst of many dollar bonds from the MoF.

"You may say that Rmb2bn is nothing, but this is probably just the beginning," said Qiao. "At a time when, in the domestic market, government bond yields are push-ing too high, this is potentially helpful in terms of keeping borrowing cost relatively low." ◼

CNH, Bond Connect drive MoF o�shore auction demandChina's Ministry of Finance completed its �rst semi-annual auction of the year of o�shore renminbi (CNH) bonds on Thursday. The deal surprised analysts with the strength of its demand. Noah Sin, 22 Jun 2017.

14 GlobalRMB

CNH BONDS

Announced on Monday and launched the following day, BOC sold a Rmb1.5bn ($217.41m) three year note,

a $650m three year floating rate note, a $750m five year, a $300m 10 year, a €500m($530.1m) three year floater and an A$800m ($600.2m) five year floater through branches across four continents.

“This was really to support the Belt and Road programme in China,” said one head of syndicate close to the deal. BOC also has funding needs that it met through the various currencies and domiciles, but this was more about making a statement, he said, adding that the issuer was careful to spread the deal across different tranches.

“This wasn’t just a funding exercise,” said the syndicate head. “BOC made a statement about the depth it has, plus the support there is for the Belt and Road.”

China’s Belt and Road route covers more than 60 countries and regions from Asia to Europe via southeast Asia, south Asia, central Asia, west Asia and the Middle East.

Launching so many tranches across multiple jurisdictions on one day ran the risk that one or more of the portions would fall behind the others, said the syndicate head. But BOC was eager to do a large transaction in one go — and in a reflection of its credit strength, it ended up meeting its goals for each tranche without having to pay a new issue con-cession, he said.

This is not the first time the Chinese lender has executed a blockbuster deal. In June 2015, BOC issued a 10-tranche

bond spanning dollars, euros, Singapore dollars and offshore RMB, also touted as part of the Belt and Road policy.

DIM SUM WARMS UPHowever, the most notable tranche of BOC’s Tuesday trade was the Rmb1.5bn offshore renminbi portion, launched through the Johannesburg branch and sealed on the back of a Rmb3.2bn book.

While the deal itself was straightfor-ward, the three year notes stood out as the first conventional public dim sum of 2017, and also the first time BOC Johannesburg has issued notes in any currency.

Here too, BOC had an objective. “To issue from the African branch is

the continuing theme of the interna-tionalisation of the renminbi,” said a syndicate banker working on the dim sum.

The syndicate head added: “There was a bit of trepidation about that, but if there’s one issuer that can reopen the dim sum market, it’s BOC. We were all surprised by the success of that transac-

tion.” While it did not necessarily mean the dim sum market would go into full swing, it did give it a glimmer of hope, said the syndicate head.

For CNH buyers, the tranche offered a rare buy, said one Hong Kong banker on the deal. “Investors saw it as an oppor-tunity,” he said. “It’s a very high quality issuer.”

Joint bookrunners and joint lead managers Barclays, BOC, Citi, HSBC and KGI Asia released guidance for the CNH portion in the low 5% area. Books peaked at Rmb6bn, and final guidance came in at 4.88% at around 5.30pm local time, which was also where the bond was priced. It was trading just above par on Wednesday.

The bond certainly reopened the off-shore RMB market, which has seen very little activity over the past year. Accord-ing to GlobalRMB data, only one other issuer has sold a dim sum in 2017. Ocean Wealth II, a subsidiary of Chine Orient Asset Management, bagged a Rmb850m loan participation note, arranged by sole bookrunner JP Morgan in February.

The absence of issuance is because the market was affected by volatility in CNH FX rates since last year, said a head of syndicate for Greater China at one of the leads.

“What’s also playing into all this is that onshore rates have started to go up. We do see the investor base become smaller as money from CNH funds goes into dollar funds,” he said. “Plus, the onshore renminbi market is a lot bigger. And if the issuer can fund inside 4% onshore, why would they do 5% off-shore?” ◼

BOC bags Belt and Road blockbusterBank of China hit Asia's debt market hard on Tuesday, unleashing a huge deal spanning four currencies and six tranches. The $3.1bn-equivalent deal was designed to make a statement to the market that it should not forget China’s Belt and Road initiative, DCM bankers said. Morgan Davis & Addison Gong, 12 Apr 2017.

We do see the investor base become smaller as money from CNH funds goes into dollar funds.

GlobalRMB 15

PANDA BONDS

The German carmaker priced the one and three year private placement bonds on May 17, with coupons of 5.18% and 5.3%,

raising Rmb3bn ($437m) and Rmb1bn, respectively, according to sources on the deal. Bank of China and ICBC were the lead arrangers.

Daimler is no stranger to the onshore RMB market, having issued a total of Rmb18bn worth of Panda bonds since March 2014, when it debuted in the asset class, according to GlobalRMB data.

It took the issuer just two months to return to the Panda market for the second time this year, having raised Rmb3bn

through a 4.6% one year private placement on the exchange market on March 14.

GlobalRMB data also shows that the May 17 deal has made Daimler the leader in the Panda bond market for 2017, both in terms of number of tranches and accumulated volume of bond issued so far this year.

GREEN PANDASeparately, renewable energy company CPNE priced its Rmb800m 5.5% 2020 in a private placement on the interbank market (CIBM) on May 19.

“They [CPNE] are marketing this as a green bond, naturally, because they are in the renewable energy business,” a source

close to the deal told GlobalRMB. “The issuer will keep the proceeds onshore for its pro-jects in China.”

China Merchants Bank and China Citic Bank Corp were the lead arrangers on CPNE’s deal. The bond is rated AAA by domestic credit rating agency China Chengxin.

This is the �rst green Panda bond since August 2016, when another Hong Kong-listed Chinese company, Beijing Enterprises Water Group (BEWG), issued the �rst green Panda, a dual trancher featuring a Rmb1.8bn 3% 2021 and a Rmb2.2bn 3.3% 2023.

The issuer raised Rmb1.3bn from two dim sum bonds in 2011, according to GlobalRMB data. ◼

Daimler leads Panda issuance, CPNE debuts green RMB bondGermany's Daimler has rapidly returned to the Panda bond market, pricing a dual-trancher last week. Its deal was followed by China Power New Energy Development Company (CPNE)’s debut green Panda, a rarity in the renminbi market. Noah Sin, 23 May 2017.

Lead arrangers China Merchants Bank and Industrial and Commer-cial Bank of China opened books to the bond on Wednesday.

In the end the trade closed with a �nal coupon rate of 4.89%, sources close to the deal told GlobalRMB. The settlement date is April 21.

“It was a matter of a few basis points. Issuers always want the bond to pay less, and investors more,” said one source. “In the end the matter was resolved swi�ly.”

While the coupon is slightly higher than recent Pandas by other red-chip companies, the source said this was not the primary concern of investors who bought the bond.

“They really just care about the business itself, and CMP has a very good rating and reputation,” the source told GlobalRMB.

Both CMP and the bond are rated AAA by domestic rating agency, China Chengxin. The company debuted in the market last November, raising Rmb1.5bn from what is a termed a super short-term note, with a coupon of 3.19%. This bond will mature in August 2017.

CMP’s deal came just a week a�er another red-chip Panda bond. China Jinmao Holdings priced a Rmb2.5bn 4.65% three year bond on April 11, hitting the upper end of the coupon range. Bank of China and China Citic Bank were the lead arrangers.

SILK ROAD BEGINS IN CHINAUnlike other red-chip deals, CMP is marketing its Panda as a Silk Road bond, despite an undertaking to keep all of the

proceeds onshore. According to the pro-spectus, CMP will use Rmb1.26bn of the proceeds to fund projects in China, and the rest to repay bank loans.

While there is not an o¥cial de�nition of Silk Road bonds, they are generally understood to be bonds linked to projects taking place in one of the One Belt One Road countries, and o�en denominated in renminbi.

“One Belt One Road begins with China,” said a banker. “Just because the bond’s proceeds will be used onshore, it doesn’t mean it isn’t a Silk Road bond. [Proceeds from this bond] will be used in many key cities along One Belt One Road, including many ports that require funds for M&A, for example. This will meet the One Belt One Road strategy’s needs.” ◼

CMP raises Rmb2.5bn from ‘Silk Road’ PandaChina Merchants Port Holdings (CMP) successfully raised Rmb2.5bn ($363.4m) from a �ve year Panda bond on the interbank market on Thursday. The company is presenting the trade as a Silk Road bond, even though all of the proceeds will be used onshore. Noah Sin, 21 Apr 2017.

16 GlobalRMB

FX

The surprise statement from Trump on the RMB came only days a�er the conclusion of the high-level rendezvous in Trump's Florida

resort of Mar-a-Lago. The meeting had been scant on material outcomes, as geopolitics took over with issues such as the Syria bombing and diplomatic e�orts around North Korea's nuclear ambition.

Speaking to media a�er the event, Trump reversed on the campaign promise to label China a currency manipulator – adding that a reason for the change was the need for Chinese co-operation on issues such as North Korea.

"They’re not currency manipulators,” Trump said.

Trump's remarks, which included a repe-tition of his view that the dollar was getting too strong, had a clear e�ect on currency markets. The dollar index retreated 0.13% in the session to 100.053, down 2.3% in the year so far, as of 11:15am on April 13, according to Wind data. Meanwhile, the o�shore RMB (CNH) was trading at 6.8744 against the dollar, up by 0.14%, while the onshore RMB (CNY) stood at 6.8651, up 0.18%.

The Institute of International Finance, a think tank based out of Washington, DC, had said on April 7 that it did not endorse labelling China a currency manipulator, as China did not meet the US Treasury's criteria. But the IIF also added that Trump might choose other avenues to ramp up pressure on the Chinese.

"[A] possibility is for the US to initiate counter-interventions," wrote Jonathan Fortun, a research analyst at the IIF. "As the RMB is now an SDR currency and China’s bond market is technically completely open

to foreign sovereign investors, there is now no technical barrier for the US to purchase RMB and intervene in the USDCNY market. Of course, the political and market risks of such action can be extremely high."

QUID PRO QUOAt the Florida meeting between Xi and Trump, the two heads of state also agreed on a basic timeframe to push the dialogue on trade to the next level.

"I think in many ways, the most signif-icant thing was a 100-day plan," Wilbur Ross, secretary of commerce for the Trump administration, told a press brie�ng. "Normally, trade discussions, especially between China and ourselves, are denomi-nated in multiple years."

One topic to receive a speci�c mention was around greater market access for US �nancial institutions to the onshore market. This is likely to translate into

China allowing foreign �rms to �nally gain majority stakes in onshore bank and brokerage ventures.

Yet, even that second promise was not exactly the by-product of hard negotiations by Trump.

"Previously, under the Obama Adminis-tration, China seemed to have been moving in this direction [of allowing majority own-ership for foreign �nancial institutions], as a bilateral investment treaty was being negotiated," wrote Marc Chandler, global head of currency strategy at Brown Brothers Harriman. "It also may not be such a signif-icant concession either, on the grounds that Chinese �nancial institutions have become quite large, and their role as national cham-pions will be di¥cult to break."

Little was said or hinted at in terms of what China may be asking in return. It is possible that China may seek better access to high-tech sectors for acquisition deals, or that the trade-o� may be not getting labelled as a currency manipulator by the US Treasury, which is due to publish a report on the topic this month.

As for the work towards the Bilateral Investment Treaty, �rst �oated in 2008 during the presidencies of George W. Bush and Hu Jintao, Trump may have scored a win.

"The threat of protectionism seems to be working in terms of inducing China to reduce its very large negative list of foreign investment, including �nancial services," said Alicia Garcia-Herrero, chief economist at Natixis, on April 10. "The way ahead would be to conclude a BIT favourable to the US, which could give the US a clear advantage versus other competitors, nota-bly European." ◼

Manipulation stance dropped as Trump so�ens toneThe friendly meeting between US president Donald Trump and his Chinese counterpart Xi Jinping last week has ushered in warmer relations, with Trump stating on April 12 that the US Treasury will not label China a currency manipulator. Meanwhile, the two sides are working on a framework for greater market access to be delivered in just over three months. Paolo Danese, 13 Apr 2017.

I think in many ways, the most significant thing was a 100-day plan. Normally, trade discussions, especially between China and ourselves, are denominated in multiple years.

GlobalRMB 17

FX

The market response was pretty unanimous in condemning the PBoC move, made public on May 26 via a statement on the CFETS web-

site, mere hours a�er a Bloomberg report on the topic.

According to the planned change to the mechanism, the daily �xing will be based on the 4:30pm CNY closing, changes in the CFETS basket of currencies, and the new countercyclical adjustment factor — which has the main goal of smoothing volatility on a day-to-day basis. There are 14 banks con-tributing quotes for the �x at the moment.

The consensus seems to be that the revi-sion makes the �x less transparent, giving even more leeway to PBoC to move the �x as it sees �t. This is also in apparent disregard to its goal, expressed in August 2015 when it made the last major change to the �xing mechanism, to move to a more market-deter-mined mid-point.

It does not look good. Ken Cheung, an Asian FX strategist at Mizuho, pointed out that news of the change in the �x came in the midst of heavy interventions by the authorities in the o�shore RMB (CNH) mar-kets, where concerns arising from Moody's downgrade of China’s rating led to renewed downward pressure on the currency.

Taken together, the change to the �x and the renewed interventions contradicted the PBoC's statements that RMB internationalisa-tion and related reforms were still en route.

"To some extent, the revision of CNY �xing mechanism is a backward step of China’s FX policy to allow the market to play a decisive role in allocating resources," Cheung wrote on May 29. "Until the PBoC reveals more detail on the countercyclical factor, the new CNY �xing mechanism is a ‘black box’ formula. In this way, the PBoC

could get [a better] grip on the CNY �xing setting."

THE SMALL PRINTWhile PBoC did not specify a timeline for the change to the �xing mechanism and said it was considering it, some are speculating it may already be in use.

"In eight of the last 10 sessions our �xing model has produced negative forecast errors, an unusually long string that we attribute to the tweak to the �xing mechanism," wrote Tim Condon, Asia chief economist at ING, on May 29. "The CNY �xing has appreciated 0.22% and spot CNY has appreciated 0.55%."

Commerzbank analyst Hao Zhou agreed, noting that since around mid-April the �xing had increasingly deviated from the bank's model projection.

"It is still unclear what exactly is behind the counter-cyclical adjustment factor," Zhou wrote. "However, we assume the state authorities will tend to �x CNY more strongly when they think the market is expecting 'too much' CNY weakness. [The] �xings will again be more arbitrary and thus almost impossible to predict."

This is the second change to the �x this year a�er PBoC reduced the reference window to the currency basket from 24 to 15 hours in February.

A few analysts said it was too early to draw a conclusion on the new mid-point mechanism.

"Frankly speaking, it may still take a few weeks for us to quantify the factor," wrote Tommy Xie, an economist at OCBC Bank. "However, for corporate treasurers or investors, we think there is no point to focus too much on those technical issues. We see a stronger RMB bias amid dollar weakness under the new �xing mechanism though the new regime makes the daily �xing forecast more unpredictable as com-pared to before."

Overall, however, most believed the move marked a reduction of the market's role in determining the direction of the currency.

"It is perhaps understandable why Bei-jing is inclined to prioritise yuan stability in a year of major leadership reshu¼e and external headwinds," said ICBC's Huang. "But changes as such, once o¥cially imple-mented, will mark a major step backwards in all e�orts to achieve a genuine free �oating FX regime." ◼

Banks slam PBoC x adjustmentThe news that the Chinese central bank is planning to introduce a counter-cyclical component to the calculation of its daily �x of the onshore RMB (CNY) has le� market participants scratching their heads. Analysts say the move contradicts earlier statements from the PBoC about giving markets more say in the exchange rate. Paolo Danese, 31 May 2017.

STRONGER CNY FIXINGS BY PBoC IN RECENT MONTHSUSD-CNY �xing less Commerzbank USD-CNY �xing model, in pips

50

0

-50

-100

-150

-200

-250

-300

SOURCE: Bloomberg, Commerzbank Research

20-Feb-17 13-Mar-17 03-Apr-17 24-Apr-17 15-May-17

18 GlobalRMB

FX

After hitting a high of 6.7238 in the morning session, the CNH was trading at 6.7588 as of 4pm on June 1, down 0.21%

from the previous close but up 2% from the start of May, according to Wind data.

The onshore RMB (CNY) meanwhile, was 0.3% stronger in the session at 6.8007. The two are up 3.04% and 2.14% against the dollar in the year-to-date.

The rally also pushed CNH Hibor fixing from 5.35% last Friday to a whopping 42.82% overnight rate on June 1, as waning liquidity increases interbank funding costs.

Ken Cheung, Asia FX strategist at Mizuho, said that the strength of the CNH shows that the People’s Bank of China is squeezing offshore liquidity to stabilise the currency.

“It seems that the PBoC has stepped up its actions to defend the renminbi following Moody’s downgrade last week, with the suspected onshore FX inter-vention and offshore renminbi liquidity management,” Cheung wrote in a memo on May 31.

Moody’s downgraded China from A1 to Aa3 on May 23, the agency’s first cut of the rating since 1989. The credit agency attributed the move to growing debt levels across the Chinese economy.

The offshore interventions can be seen as an attempt by PBoC to force more sta-bility in the exchange rate at the expense of flexibility, according to analysts. This has led some banks to reconsider their views on the currency, with UBS saying on June 1 it was changing its USDCNY

forecast from 7.15 to 7 for end-2017, and to 7.1 from 7.3 for end-2018.

One reason is that the PBoC is likely hunkering down in preparation of more US Federal Reserve rate hikes this year and a further so�ening of China’s macro data in the second half of the year — which will put renewed downward pressure on the RMB.

However, a casualty of the authority’s moves will be their end-game of having a �oating currency by 2020.

“The overall intention is very clear — stabilise the yuan and therefore reverse depreciation sentiment in the market,” Helena Huang, China economist at ICBC Standard Bank, told GlobalRMB. “In terms of the goal to achieve the free �oat, this is perhaps not the current priority for policymakers."

THE PROVERBIAL CAKEMizuho’s Cheung also noted the new trend comes just ahead of the new Bond Connect

scheme, which will allow foreign inves-tors to enter the onshore interbank bond market using their Hong Kong trading accounts.

“In our view, China is supporting ren-minbi exchange rates to pave the way for the launch of Bond Connect,” said Cheung. “We maintain our call for further CNH spot upside, eyeing on the year-to-date high of 6.7826 in the near term.”

Huang agreed that the Bond Connect, rumoured for a July 1 launch, was likely a consideration.

“Once the Bond Connect is launched it will spur demand for CNH and CNY and reinforce the strengthening trend,” she said.

The acceleration of CNH appreciation also gave a boost to the o�shore RMB derivatives market, with the Hong Kong Exchange reporting that 8,837 USDCNH futures contracts were traded on May 31 with a notional value of $883.7m, more than double the volume on May 29 and the second highest volume on record.

If the RMB continues to appreciate, it is possible that the authorities may be able to entice foreign investors even while reneging on their promise of a more mar-ket-driven exchange rate.

“Since 2009, when Beijing started to build the o�shore RMB market to promote the RMB internationalisation strategy, there was an expectation of RMB appreci-ation and it helped build momentum for overseas investors coming into the CNH market,” Huang added. “Going forward if we step back into an upward trend that will encourage investors to invest in RMB assets.” ◼

CNH surge continues as China squeezes o�shore liquidityThe o�shore renminbi (CNH) reached its strongest point against the dollar since the start of the year on Thursday, despite China’s sovereign rating downgrade last week. Analysts say the sharp turn re¤ects Chinese regulators’ determination to keep the currency from falling ahead of renewed pressure from external factors. Paolo Danese, 1 Jun 2017.

The overall intention is very clear — stabilise the yuan and therefore reverse depreciation sentiment in the market.

GlobalRMB 19

SDR

The data was released by the IMF on March 31 under the currency composition of o¥cial foreign exchange reserves (COFER) pro-

gramme, which gathers information from 146 countries about their holdings.

The new release covers Q4 2016 and for the �rst time the survey broke out hold-ings in RMB, giving a �rst o¥cial measure of just how appealing RMB-denominated assets are for global reserve managers following the currency's inclusion in the IMF special drawing rights basket in October 2016.

The headline �nding is that the RMB has gained little traction so far, given that the IMF had said in August 2015 that it estimated the RMB made up 1.1% of reserves as of 2014, based on a survey of its members, up from 0.7% in 2013.

Of the eight currencies covered by the survey – which aside from the RMB include dollar, euro, yen, pound, Aus-tralian dollar, Canadian dollar and Swiss franc – the RMB came in second to last. Out of a global pool of $10.8tr in reserves, only $84.51bn was allocated to RMB assets, or 1.07%, trailing the Australian dollar with $146.1bn, and ahead of the Swiss franc with $13.7bn.

The dollar remains dominant with 47% of the total, up from a 45% share the previous quarter.

Jukka Pihlman, global head of central banks and sovereign funds at Standard Chartered, told GlobalRMB the initial results are not surprising, despite the RMB's SDR status.

"The inclusion in the SDR basket was never going to be an automatic trigger to invest in RMB – it merely removed the remaining obstacles that some central banks may have had," he said. "In general, large changes in strategic asset allocations do take time because of internal processes

and review periods at the policy level and then implementation also takes time.”

A LOW BASESebastian Galy, macro strategist with Deutsche Bank, remained bearish on the timeline for an increased role of the RMB as a reserve currency.

"About 80% of o¥cial reserves are held in liquidity tranches used for FX stabilisation," he said. "In theory, reserve managers should hold about 20% of their liquidity in RMB, given the size of China’s currency bloc. The main reason they don’t is that there simply aren’t enough liquid assets to own."

Another strategist concurred with the view.

"We suspect that central banks will be cautious and opportunistic," wrote Win Thin, global head of emerging market currency strategy at Brown Brothers Har-riman. "China's onshore bond market is accessible, but there may still be liquidity concerns, and, as a store of value, there may be open questions. In the near-term, the risks are on the downside of the yuan and Chinese bond prices.”

Should the RMB actually move towards a 20% proportion of global reserves, hold-ings would grow to some $1.6tr worth of assets, based on the current total pool.

"While Chinese policymakers have actively tried to attract foreign reserve managers, this degree of foreign own-ership without material controls is unrealistic," added Galy. "In turn, the prospect of shi�ing regulation, along with poor valuations, may be the main reason reserve managers don’t invest meaning-fully in Chinese bonds."

For now, a more realistic target for RMB holdings by global central banks may be based on other metrics, according to Ken Tai, Asian FX strategist at Mizuho.

"Going forward, we believe that there is plenty of growth room for the RMB as a global reserve asset," he wrote on April 3. "The 1.1% RMB share remains signi�-cantly lower than its 10.92% share in the SDR basket and near 13% share in global trade in 2015. [We] expect China to stick with its RMB internationalisation plan and further open up its onshore asset market gradually via the pilot programs in the o�shore market, with the Bond Connect and A-share inclusion in the MSCI in the pipeline."

As for the overall trend, StanChart's Pihlman said there was little doubt about what future IMF readings would reveal.

"I think there’s really only one direction for this number in the foreseeable future and it is up." ◼

SDR status fails to boost RMB reserve holdingsNew data from the IMF shows RMB-denominated reserves remain a drop in the ocean for global central banks. But while experts expect the share to rise, it might not happen in the short run. Paolo Danese, 5 Apr 2017.

WORLD (US DOLLARS, BILLIONS) Q1 2016 Q2 2016 Q3 2016 Q4 2016 Total Foreign Exchange Reserves 10,926.43 10,969.35 10,994.20 10,715.20 Allocated Reserves 7,779.73 8,071.88 8,366.85 8,429.87 Claims in US Dollars 5,095.69 5,269.21 5,417.21 5,504.54 Claims in euros 1,517.93 1,560.68 1,640.83 1,614.44 Claims in Chinese renminbi 78.83 Claims in Japanese yen 283.83 329.22 349.89 335.12 Claims in pounds sterling 361.16 367.22 367.82 365.52 Claims in Australian dollars 133.67 136.97 150.19 145.60 Claims iin Canadian dollars 140.36 147.76 159.91 165.15 Claims in Swiss �ancs 14.81 14.28 14.74 13.76 Claims in other currencies 232.27 246.54 266.26 206.92 Unallocated Reserves 3,146.70 2,897.47 2,627.36 2,285.33

SOURCE: IMF

20 GlobalRMB

OBOR

Hit hard by China’s strict capital controls, renminbi internation-alisation is at its lowest point since 2014, according to the

Standard Chartered Renminbi Globalisa-tion Index. The index, which tracks the size of the o�shore renminbi market, suf-fered a 6.4% monthly drop in February, and now stands at 1,770 points.

But OBOR may give RMBi just the kick it needs to reboot.

In his speech at the Belt and Road Forum on May 14, president Xi Jin-ping pledged an additional Rmb100bn ($14.5bn) for the Silk Road Fund. Xi also said that China will encourage �nancial institutions to conduct overseas renminbi fund business with an estimated amount of about Rmb300bn.

The bulk of this funding will be denom-inated in renminbi, United Overseas Bank said in a May 18 report. The bank also suggested that China, with its low debt ratio of less than 20% of GDP, can a�ord to step up and �ll much of OBOR’s fund-ing demand if need be.

Jack Yang, head of renminbi business at the economics and strategic planning department, Bank of China (Hong Kong), told GlobalRMB that renminbi funding for OBOR can bring about a breakthrough for the currency’s internationalisation.

“Renminbi needs an opportunity to internationalise, it cannot do that in the mature currency market where the dollar is the dominant currency,” said Yang. “But it can create a market among devel-oping countries along OBOR. Many of

these countries need foreign investment, and renminbi can become the mainstream [currency] there.”

But this strategy is not new, said Yang. The Chinese leadership appears to be taking a leaf out of the American play-book.

“[OBOR] is a bit like the Marshall Plan,” said Yang, referring to the US aid pro-gramme to reconstruct Europe a�er World War II. “Europe needed a lot of funding then, and the US provided it in dollar.”

FUNDING SOURCESHowever, questions remain on where cap-ital for OBOR will come from. One issue is that the existing development banks do not have enough capital to support OBOR in the long run, a StanChart spokesperson told GlobalRMB in a written response to questions.

“Market estimated that the total infra-structure investment requirement […] by 2025 will be about $9tr,” the spokesper-son said. “Funding from capital pools, such as the Asian Infrastructure Invest-ment Bank (AIIB) and Silk Road Fund, is far from adequate to meet the total capital needs.”

This gap creates an opportunity for commercial banks to step in and provide �nancing via more traditional avenues, such as loans and bonds, according to BOCHK’s Yang.

He also reckons that as investors increase their exposure to renminbi via OBOR-related projects, other opportuni-ties would appear.

“Most of these [OBOR projects] are long-term investments,” he said. “The investment term will be �ve years or even longer. Investors will need relevant prod-ucts to hedge the [currency] risks.”

That could lead to increased demand for cross-currency swaps and RMB futures.

Non-bank �nancial institutions, such as asset managers and private equity funds, will also have a role to play, given the Chi-nese president’s proposal for Rmb300bn in overseas fund business.

“The funding for policy banks have already been mentioned by the president separately, and �nancial banks have already invested a lot in the past few years in OBOR, which is why I think the Rmb300bn may go towards the smaller investors rather than the large �nancial institutions,” Yang suggested.

Bing Chen, head of the renminbi competence centre at BNP Paribas, told GlobalRMB that Xi could instead be refer-ring to fresh RMB funding for overseas infrastructure projects, overseas renminbi products, or new funding to help onshore companies take the renminbi global.

Chen also said that it is too early to say how much of OBOR’s funding will end up being denominated in renminbi, as it is not entirely up to China to decide.

“It is very di¥cult to assign a number, given OBOR involves many countries with di�erent political and economic concerns,” said Chen. “[But] Chinese authorities will try their very best to pro-mote renminbi usage not only for OBOR but globally.” ◼

OBOR’s RMBi impact divides expertsBanks are beginning to grapple with the implications of funding the One Belt One Road (OBOR) project following the Belt and Road Forum for International Cooperation this month. While the initiative should help the renminbi go global, it is unclear how far and fast it will boost RMB internationalisation. Noah Sin, 26 May 2017.

GlobalRMB 21

OBOR

President Xi Jinping said at the forum that China was putting forward an initial Rmb300bn ($43.5bn) cash pile for OBOR-re-

lated overseas renminbi business. And since then, banks have started angling to become the go-to �rms not just for ren-minbi, but for broader OBOR business.

On May 31, Deutsche Bank signed a memorandum of understanding with China Development Bank. The two committed to promoting the internationalisation of ren-minbi, and an investment of $3bn in Belt and Road projects over the next �ve years through joint lending and project �nance.

This was followed by an MoU on June 2 between the Silk Road Fund and the European Investment Fund to invest €500m ($443.7m) in both OBOR and the Investment Plan for Europe, a programme created by the European Commission to boost investment in the continent.

These tie-ups may only be the beginning of a bonanza of OBOR-related business to come, if Asian Development Bank’s numbers are anything to go by. The ADB has estimated that a total of $22.6tr of infrastructure investment is needed for the 2016-2030 period. As Asian countries only invest $881bn per year in infrastruc-ture, this leaves an estimated funding gap of 2.4% of projected GDP in the region between 2016 and 2020.

The Chinese government has touted OBOR as the answer to this shortfall. But unlike other infrastructure development initiatives of the past, governments will have to share a slice of the pie with com-mercial and policy banks.

“So far, the public sector has provided the majority of infrastructure investment, particularly in Asia, where the government contribution is over 90%,” said Qu Hongbin, chief China economist at HSBC, in a May 31 report. “This implies that there is limited room for further scaling up of public invest-ment, so new channels are needed.”

Development �nance will continue to play a key role, said Qu, but OBOR also needs products and services that com-mercial banks provide, from syndicated �nancing and capital market �nancing, to cash management and cross-border settlement.

TRICKY TASKYet with only 10%-15% of global pension

and insurance funds in OECD countries investing in infrastructure projects, mo-bilising private sector �nancing for OBOR can be a tricky task.

“The main obstacle to developing infrastructure is not a lack of available �nancing,” said Qu. “[But that] global pension funds, insurance companies and other long-term institutional investors, which have a large pool of capital, have found it di¥cult to identify investable projects.”

His concerns were echoed by Daniel Everett, global head of renminbi strategy and execution at ANZ, who singled out credit risk as a key challenge for OBOR.

“Many Belt and Road countries are sub-investment grade and some lack the critical mass or a visible pipeline of work to justify the deployment of expertise there,” wrote Everett in a May 29 article.

RISK AND REWARDBut one Chinese banker told GlobalRMB that this was exactly where opportunities lie for smaller, regional banks.

While country risk for many of those under OBOR was quite high, banks would seek to assist Chinese state-owned enterprises heading to OBOR rather than local companies, lowering the risk around loans extended to OBOR projects, he said.

“These SOEs will need project �nance and project loans, and once they have the liquidity they will need to invest it for short term liquidity management,” he said. "There we can provide money market funds and other hedging products right here in Hong Kong.” ◼

Banks get down to business with OBOROne Belt One Road has graduated from diplomatic talking point to economic imperative a�er China pledged a series of investments at the Belt and Road Forum for International Cooperation in Beijing in mid-May. Now banks are lining up to get a piece of the action in a �eld that is traditionally dominated by governments and policy institutions. Noah Sin, 06 Jun 2017.

So far, the public sector has provided the majority of infrastructure investment, particularly in Asia, where the government contribution is over 90%.

22 GlobalRMB

OBOR

Key announcements:• China has pledged an additional

Rmb100bn ($14.5bn) for the Silk Road Fund.

• It will encourage �nancial institutions to conduct overseas renminbi fund busi-ness with an estimated amount of about Rmb300bn.

• It will also provide Rmb250bn and Rmb130bn of renminbi loans for OBOR projects via China Development Bank and the Export-Import Bank of China, respectively.

• Participant countries made a commit-ment to the promotion of bilateral local currency settlement and co-operation agreements, development of local cur-rency bonds and stock markets, and to engage in dialogue to prevent �nancial risks, according to the joint commu-nique from the forum.

• The US embassy in Beijing and US busi-nesses are setting up the American Belt and Road Working Group, according to media reports.

• The next Belt and Road forum will take place in 2019.

RMBi:• Speaking at the forum, Zhou Xiaochuan,

governor of People’s Bank of China (PBoC), said once again that the use of local currencies for Belt and Road pro-jects can mobilise local resources and help ensure �nancial stability. Zhou added that China hopes to promote the development of capital markets, such as in equities and bonds, and increase connectivity between bond markets.

• Ken Cheung, Asian FX strategist at Mizuho Bank, said China’s strategy

to push for use of local currency will encourage the use of renminbi beyond China.

“China has been taking some initia-tives in this area, including signing the currency swap agreement with other central banks,” Cheung wrote in a memo on May 15. “We believe this would help enhance renminbi’s linkage with other countries along the route and promote renminbi’s usage, turning renminbi into a regional currency.”

Cheung added that the timing of the Belt and Road forum, as China signals some loosening capital controls, was important.

“The Belt and Road Initiative would promote renminbi internationalisation and China is set to resume opening up its capital account in the medium term,” said Cheung. “The capital out-�ow controls are likely to be temporary measures, and [Chinese] authorities will likely continue to ease their capital out-�ow controls in the rest of this year as long as renminbi exchange rate remains stable.”

• Although infrastructure projects are key to the initiative, Belt and Road’s goal to connect countries and continents will also bring about demand in cross-border �nancing, said Qu Hongbin, chief China economist at HSBC.

“The Belt and Road Initiative will be the key driver for renminbi international-isation as it stimulates the next phase of China’s outward direct investment,”

Qu wrote on Monday. “[OBOR] will help open up more markets for Chinese companies and facilitate global trade, investment and capital �ows.”

• Yue Yi, CEO, Bank of China Hong Kong, said in a May 14 statement Hong Kong should make use of its role as an o�shore renminbi centre to develop �nancial products denominated in renminbi, in order to promote the use of renminbi in Belt and Road countries.

“As a world famous international �nancial centre, Hong Kong has capital, talent, advanced [�nancial] services and the advantage of One Country Two Systems, which means it can become the most important �nancial services hub in OBOR,” Yue said.

Economy:• Alicia Garcia Herrero, chief economist

at Natixis, said in a May 12 report that a 50% rise in cross-border lending might be needed to reach China’s spending target under the initiative. However, such a sharp uptick in foreign lending to China could end up being a drag on the economy.

“While such a surge in cross-border lending is not unheard of, […] the real bottleneck would be the rapid increase in China’s external debt,” said Herrero. “[China’s external debt] would go from the currently very comfortable level of 12% of GDP all the way to more than 50%, if China were to take on the [full amount of] debt, or something in between if co-�nanced by Belt and Road countries.” ◼

Special round-up: the Belt and Road Forum for International CooperationThe One Belt One Road (OBOR) forum dominated global headlines on Sunday, when the summit kicked o� in Beijing. There was no shortage of grandiose statements but analysts remain divided over what OBOR will mean for China and its renminbi internationalisation (RMBi) strategy. In this round-up, GlobalRMB summarises market views on the forum’s outcomes. Noah Sin, 16 May 2017.

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