The Hong Kong Exchanges and Clearing flag, China's national flag and the Hong Kong flag outside the exchange. Photo:   Reuters/Bobby Yip
The Hong Kong Exchanges and Clearing flag, China's national flag and the Hong Kong flag outside the exchange. Photo: Reuters / Bobby Yip

In another step to open up China’s capital markets, Hong Kong and Chinese regulators formally approved a long-awaited scheme to connect China’s US$9 trillion bond market with overseas investors.

The so-called Bond Connect programme has been in the works since Beijing launched a similar scheme connecting Hong Kong and Shanghai stock markets in 2014.

Overseas investors have other avenues to buy Chinese debt and currently hold just 2% of onshore bonds, a relatively low level that reflects concerns about capital controls and the stability of the yuan that some say the connect scheme will do little to alleviate.

The Hong Kong Monetary Authority (HKMA) and the People’s Bank of China (PBOC) announced their approval late on Tuesday, but provided few details about the plan, such as when the bond trading system would go into operation.

They said China Foreign Exchange Trade System (CFETS) & National Interbank Funding Centre, China Central Depository & Clearing and Shanghai Clearing House would be the main Chinese infrastructure providers for the scheme.

They will work with the Hong Kong Exchanges and Clearing (HKex) and Central Moneymarkets Unit to establish mutual bond market access between Hong Kong and mainland China.

“It will provide a new channel for Hong Kong and international investors to invest in mainland China’s bond market, which is the third-largest in the world and much undersold to global investors at the moment,” said Benjamin Hung, chief executive for Greater China & North Asia at Standard Chartered.

Initially, foreign and Hong Kong investors will be allowed to trade in China’s interbank bond market, the so-called northbound trading link. Investment will not be subject to quotas and the scheme will be rolled out in phases, the authorities said.

They did not indicate when northbound trading would begin or when Chinese investors would be able to trade in overseas bonds – the southbound route.

“China’s bond market is still in a period of ‘expanding inflows and restricting outflows,’ so I expect the southbound connect is still a long way off,” said one Chinese bond trader.

Citing sources, Reuters reported earlier this month that authorities were set to formally unveil the scheme in July and aim to launch trading later in the year.

On Wednesday, a person closely involved in the discussions said authorities now wanted the first trade in July. Regulators will hold intensive talks with the industry to push the scheme forward, this person said.

Index inclusion

International investors have been allowed direct access to the China interbank bond market since last year and some market participants have questioned the need for an additional trading scheme.

Overseas investors have been reluctant to enter the market amid fears over the stability of the Chinese yuan, which fell almost 7% last year. On Wednesday, analysts at CICC said Bond Connect would have a limited short-term impact as a result.

HKMA Executive Director Howard Lee said, however, that Bond Connect will offer investors a “new and convenient channel” with fewer technical hurdles than accessing the interbank bond market directly.

Investors would be able to buy Chinese bonds through their existing dealers in Hong Kong, without the hassle of having to set up accounts on the mainland, he said.

The launch of Bond Connect would likely accelerate when Chinese bonds are included in benchmark fixed-income indexes, Goldman Sachs analysts said in a market note on Wednesday.

Desmond Fu, an analyst at Western Asset Management in Singapore, said “the variety of options available would be welcome to international asset managers who would be able to participate in the scheme they deem most operationally efficient and economically effective in gaining onshore exposure.”

In line with broader foreign access rules, overseas investors including pension funds, central banks and sovereign wealth funds will be eligible to trade sovereign and local government bonds, policy bank bonds and corporate debt on the Bond Connect.

The regulators said CFETS and HKEX will work with an international bond trading platform to provide electronic bond trading between foreign investors and mainland dealers, but did not provide further details.

Reuters reported last year the Hong Kong stock exchange was in talks with Tradeweb, a fixed income trading platform, to connect to China’s bond market, citing sources.