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Chinese government bonds have sidestepped a global debt sell-off since the start of the war against Iran, as the world’s second-largest economy emerges as a haven from rising energy prices and rising global inflation.
The yield on Chinese ten-year government bonds has fallen marginally to 1.81 percent since the end of February. In contrast, yields on 10-year U.S. Treasury bonds rose 0.38 percentage points to 4.34 percent, while Treasury yields rose 0.7 percentage points. Bond yields rise as prices fall.
Investors are betting that while major central banks in the US and Europe will be forced to keep interest rates at higher levels than previously expected to combat inflation from rising oil and gas prices, China will be relatively isolated thanks to its energy mix and very low pre-conflict inflation.
Demand from domestic buyers, whose ability to look for alternatives abroad is limited by capital controls, has also kept Chinese government bonds from being caught up in the global sell-off.
“It gives investors like us a highly uncorrelated investment option,” said Jason Pang, senior portfolio manager and head of local rates and currencies in Asia at JPMorgan Asset Management.
The resilience of Chinese bonds comes despite a prolonged rally that saw yields fall from more than 4.7 percent in early 2014 to about 1.6 percent early last year. That rally sparked warnings of a bubble and prompted the People’s Bank of China to warn that a sudden reversal in prices threatened financial stability.
While Europe and much of Asia’s dependence on imported energy is seen by investors as a vulnerability to price increases, China’s relatively diversified energy mix, in which coal and renewables play a major role, has provided some protection.
The country’s vast strategic oil reserve and access to competitively priced Russian oil and natural gas have further shielded it from the energy shock looming for neighbors such as South Korea, Japan and Southeast Asia, analysts say.
“China is less affected by this energy transfer and the economic premise is very different,” said Mitul Kotecha, head of Asian foreign exchange and emerging markets macro strategy at Barclays.
“The PBoC is in a different position” than other central banks, he added. “We’re still looking at possible easing from China. It’s a very different monetary environment than what we see elsewhere.”
Chinese consumer price inflation rose to 1.3 percent in February, the highest level in more than three years, but remains well below the 2 percent target.
Meanwhile, faced with a prolonged real estate crisis, memories of a severe bear market in equities and few other investable options, many investors have opted for government bonds.
The Chinese government bond market “has been able to better absorb the impact because the demand base is capital,” said Vincent Chung, fixed income portfolio manager at T Rowe Price.
China’s capital controls strictly limit how much money its citizens can leave the country, making Chinese bonds relatively uncorrelated with the performance of other debt markets.
“Chinese government bonds are a relatively isolated market,” said Wei Li, head of multi-asset investments for China at BNP Paribas. “The majority of investors are domestic investors. It’s very different from the government bond market.”
However, global investors have also flocked to the market even as yields have risen since the start of last year.
“Since 2012, investing in CGBs has been one of the few ways for global government bond investors to outperform US inflation,” said Charles and Louis-Vincent Gave, co-founders of research firm Gavekal, in a recent note.
“All other major bond markets have posted significant real losses and some, such as Japan, Germany and Britain, have even achieved negative nominal returns over this fourteen-year period.”
Some investors are also more positive about China’s monetary policy, compared to U.S. President Donald Trump’s continued pressure on Federal Reserve Chairman Jay Powell to cut interest rates.
“Their [the PBoC’s] Monetary policy is quite predictable,” says Wei of BNP Paribas. “If the central government wants the PBoC to cut rates, they cut rates.”
In contrast, “the Fed’s policy has many uncertainties…Will the policy continue as the new Fed chairman assumes the role?” he added. “When investors invest in government bonds, they don’t like this kind of uncertainty. When they invest in government bonds, they want stability.”
