Playing catch-up with dim sum
Rarely has a new market developed so quickly as the offshore renminbi (CNH) bond market in which dozens of Chinese and multinational companies have sold a combined US$19.2 billion in paper in Hong Kong in only the past 18 months, according to data provider Dealogic.
Their interest in renminbi liquidity, however, has been slow to reach the syndicated loan market, raising only 220 million renminbi in two deals since July 2010, when China allowed the banks to lend in its currency.
“I think most people would expect that the bond market is to develop much faster than the loan market. But I think it will balance out during the course of 2012. I’d expect to see a substantial number of syndicated deals by the end of 2012,” said John Corrin, global head of loan syndications at ANZ Banking Group.
“There is a growing sense that the renminbi is moving towards an internationally recognized currency. What is happening in the renminbi is not really all that different from what Europe’s currency market was 20 or 30 years ago.”
Lack of benchmarks
The renminbi syndicated loan market saw the light of day a year ago when China Automation – the country’s provider of safety systems for the petrochemical industry and of integrated solutions for railway signalling systems – borrowed 50 million renminbi in a US$50 million multi-currency loan from ten banks.
Yet, the widely-syndicated transaction, led by Hang Seng Bank, has proven to be a rarity. Only one additional deal – UA Finance’s US$62 million borrowing comprising 170 million renminbi, has since been concluded.
What has held back the market is lack of benchmark reference rates for renminbi in Hong Kong over which to price such loans. “At the moment, there is no rate available like the Hong Kong interbank offered rate (Hibor), so it is obviously difficult to do syndicated and club deals when you have to rely upon the individual banks’ cost of funds rate,” one banker at a foreign bank says.
While Hang Seng Bank uses its own base rate to price off the deal, Bank of China (Hong Kong) (BOC(HK)) and HSBC have each set their own CNH Hibors, based on their funding costs. The difference between rates quoted by the banks is too wide at present, making it too difficult to establish a reference rate, bankers say.
The small renminbi tranche included in the loan deal for China Automation, for instance, was priced off Hang Seng Bank’s prime rate, set at 3%, plus 135bp.
The interest rate for the UA Finance deal was set at 153bp over the three-month BOC (HK)’s CNH Hibor, which also stood at 3% at the end of 2011.
“The first aspect is that borrowers don’t like it because it is not transparent,” says Corrin. “The second is that the reference rate which the bank derives is going to be different from our own rate. It makes it difficult for ourselves to hedge that. The rate moves when the providers of the reference rates want to move, not necessarily when the market moves.”
China Resources Land, a state-owned developer, is likely to become the third borrower to tap this market, seeking a loan of around 400 million renminbi that is to be priced at a fixed rate of around 3.5%, according to sources familiar to the situation.
A credible reference rate
For foreign banks to participate in the market, it would be necessary to have an offshore interbank market through which the banks lend to each other at market-driven interest rates. In December 2011, Hong Kong’s Treasury Markets Association has urged a few banks to publish their own lending rates on their website, which bankers say is a major step forward in developing a credible, official reference rate.
“This idea of establishing a reference rate is not the most complicated and technical thing in the world. People should get on with it, except it may not be 100% accurate, but it is still better than anything else we have,” Corrin argues. “All the basic building blocks are there. It just needs a framework to be put in place. When that happens, that would really boost the attractiveness of CNH.”
As the offshore reference rates are yet to be in place, some Chinese banks in Hong Kong, a banker says, lend to their clients on the basis of Shanghai’s Shibor, the daily reference rate quoted by the banks in the onshore market.
“Obviously there is a problem because Hong Kong banks are not able to cover their positions in Shanghai. For the clients, it is not economically sensible to use the onshore rates, which are much higher at present,” a banker with a local bank says, adding that the onshore and offshore market rates are determined by completely different mechanisms.
The offshore market interest rates won’t move in tandem with the onshore market and are set artificially low by China’s central bank to control the growth of renminbi deposits in Hong Kong.
The BOC (HK), the sole renminbi clearing banking in Hong Kong, is paid an annual interest rate of 0.72% for the excess renminbi it deposits in the People’s Bank of China, the central bank, after clearing. The BOC (HK) subsequently pays 0.629% on renminbi deposits to its interbank counterparties, which are required to hold at least 25% of such deposits with BOC (HK) as prudential liquidity.
At the end of December, the three-month Shanghai interbank offered rate stood at 5.47%, 247bps higher than the rate of the same tenor quoted by the BOC (HK).
Though the renminbi liquidity in Hong Kong is largely untapped, some Chinese banks are still scrambling for renminbi deposits in Hong Kong to meet China’s regulatory demands, such as the 75% loan-to-deposit ratio. That, says Wilson Wan, head of leverage and structured finance at Bank of China
International, explains why some Chinese banks are offering a deposit rate higher than what they get paid by China’s central bank.
As the loan market is still in its infancy, the dim sum bond market has attracted a wide range of multinational and Chinese corporates, allowing them to secure a cheap source of renminbi financing. “We see the bond market and the loan market as complimentary. They suit a different purpose. Typically, the loan market is more appropriate for maturities of about five years, and the bond market for longer maturities,” says Corrin at ANZ.
The dim sum bond market, however, has yet to develop into longer maturities, with tenors concentrating on three to five years, where renminbi appreciation is likely to occur.
Thanks to the widespread expectation of a renminbi appreciation, the yield on the dim sum bonds can be as low as 0.625% for high-graded issuers such as Mass Transit Railway (MTR), Hong Kong’s metro operator, making the loan a much less appealing alternative for corporates that need renminbi funds. With the dearth of lending activities, some banks that are flooded by excessive renminbi deposits are also the major buyers of dim sum bonds, including those that are unrated.
For borrowers, renminbi appreciation has been the major concern, explains Wan. “Those tapping the dim sum bond markets have been mostly either the Chinese banks that are in need of renminbi to replenish their capital or high-yield issuers that may find it difficult to borrow in the loan market.”
More CNH loans
For the renminbi loan market to develop further, Wan adds that the renminbi pool has to grow larger to around one trillion renminbi from around 600 billion currently, allowing the banks to offer more competitive pricing to the Hong Kong dollar and US dollar loans.
Donald Lam, head of corporate and commercial banking at Hang Seng Bank, says that there is now a greater incentive to borrow in renminbi in view of the tighter liquidity of the US and Hong Kong dollar. “I think how (offshore) renminbi can be repatriated and used in the onshore market holds the key to the demand, whether it is direct investment or securities investments through RQFII.”
Under the new rules governing foreign direct investment in renminbi into the country, any FDI projects involving over 300 million renminbi should be reviewed by the Ministry of Commerce. Under the new rules, local and foreign enterprises can use renminbi funds raised overseas to invest in mainland investment projects except listed securities and financial derivatives.
A total of 16.53 billion renminbi has since been allowed to flow into 74 mainland projects, with 70% of the funds coming from Hong Kong, according to data from China’s Ministry of Commerce.