Preferential measures raise expectations of higher returns, sufficient liquidity

The number of foreign investors holding Chinese treasury bonds rose to a record high in August, as the market expects higher returns and sufficient liquidity when the country's new opening-up policies take effect.

Data from the China Central Depository & Clearing Co Ltd and the Shanghai Clearing House showed that, at the end of August, overseas investment contributed nearly 8 percent to the treasury bond market, the highest proportion in history.

Last month, foreign investors purchased 53.95 billion yuan ($7.87 billion) worth of treasury bonds, and their total investment during the first eight months was 427.8 billion yuan, according to the data.

The data also showed that, so far this year, foreign institutions have injected 536.5 billion yuan into the renminbi bond market in total, a rise of 54.3 percent from the whole of 2017. About 61 percent of the investment was in treasury bonds.

"It is likely that foreign investors will continually increase treasury bond purchases in the coming months, given the relatively positive outlook of the liquidity condition in the bond market," said Xie Yaxuan, chief analyst with China Merchants Securities.

Experts said the recent monetary easing, especially in the interbank market, has supplemented liquidity and driven down bond yields. The 10-year treasury bond yield was 3.68 percent on Wednesday, compared with the year's peak of 4.04 percent in January.

"Preferential policies have encouraged foreign investors' bond purchases," said Zhu Haibin, chief China economist and head of China Equity Strategy at JPMorgan.

According to the People's Bank of China, the central bank, value-added tax on interest income is currently exempted for foreign institutional investors if they invest in treasury bonds and local government bonds trading in the interbank market.

Another reason for the remarkable net capital inflows this year is the relatively lower interest rate in the bond market, meaning higher bond prices for trading, especially after the central bank injected liquidity into the financial system since June, according to analysts.

"The tax exemption policy is attractive for overseas investors," said Zhu. "It can lead to higher investment returns for foreign institutional investors, 20 to 30 percent more than domestic investors."

"Now it is just the early stages of the bond market's opening-up. In the medium to long term, with more measures facilitating the opening-up process, overseas investment in the Chinese capital market will continue to rise," he said.

After the inclusion of onshore stocks into Morgan Stanley Capital International's indices, global investors are expecting the country's bond market to be accepted by the world's influential global bond indices, such as the Bloomberg Barclays Global Aggregate Index.