[Updated on September 1 19:00 Asia time to include more order book details]
As expected, the landmark offering was launched on Wednesday morning at an extremely low coupon range that Chinese bond investors were not accustomed to.
Brought to the market by joint lead underwriters China Construction Bank, China Development Bank, HSBC and ICBC, the three year paper was marketed at 0.4%-0.7% and ended up pricing at 0.49%.
On an after-swap to renminbi basis, the 0.49% coupon of the Mulan bonds converts to about 2.4%, which is in-line with three year Chinese government bonds (2.425%).
This also puts the World Bank about 35bp below policy banks such as Agricultural Development Bank of China and China Development Bank, and is the lowest cost of funding ever achieved by a foreign issuer in China, according to GlobalRMB data.
“The SDR and RMB curves can’t be directly compared - but if you convert our SDR coupon to RMB [via cross currency swaps], it is about 2.4% in RMB, which is where the three year CGB trades, and about 35bp below the Chinese agency banks,” said the World Bank’s global head of capital markets, George Richardson. “That is a level we do not believe any other foreign issuer has achieved, having that much oversubscription, and with that spread on the policy banks.”
The aggressive pricing meant this was not a product for everybody with institutional fund managers in particular, largely absent from the renminbi-settled trade.
“We watch this with more intellectual curiosity than a strong investment reason,” said Brad Gibson, portfolio manager, Asia Pacific fixed income, AB Global told GlobalRMB. “For managers like us, unless there is a very attractive relative yield to invest in the SDR bond, it doesn’t strike me that the investor base will be global asset managers at this stage.”
Not that the transaction was meant for asset managers as the targeted audience for the Mulan bonds were central banks and sovereign wealth funds, those working on the transaction said.
“Given the lack of yield, we knew the funds weren’t going to buy, so the target had always been the less yield sensitive guys instead,” one syndicate banker arranging the sale said.
As with most bond sales in China, bank treasuries were the biggest buyers with a 53% allocation, central banks and official institutions (29%) and insurance companies (6%). Asset managers and securities companies made up the remaining 12%.
“We know of some central banks and asset managers who are looking at the transaction, but could not set up accounts in China fast enough to participate,” said Richardson. “But we hear they will still get the accounts ready as there will be more transactions like ours. The SDR makes sense for many central banks and financial institutions or international organisations like the MDBs. We understand there are other investors looking at doing the back-office work to buy into future SDR deals.”
More than just a gesture
The relatively narrow investor base had many participants claiming that Mulan bonds are unlikely to become a mainstream product in China.
One Shenzhen based credit analyst believes that the initial batch of issuers are likely to be other multilateral developmental agencies. This means that the yields to be offered are likely to remain extremely low.
“There’s no financial incentive for the private sector to buy. So the buyers of these notes are either politically motivated or are agencies that are mandated to promote such initiatives,” he added.
In order for the market to be successful, he believes Mulan bonds need to be market-driven and would therefore need to have a wider investor base backing it. But as things stand, Mulan bonds are more likely to be seen as a symbolic gesture.
The World Bank offering, for example, was timed to coincide with the upcoming G20 meeting in Hangzhou this weekend as well as the renminbi’s inclusion in the International Monetary Fund’s SDR basket in October.
But Steve Wang, head of fixed income research at Bank of China International has a different view.
“I think there’s more to the SDR bond than just symbolism,” he said, adding that SDR instruments offer investors a chance to gain exposure to foreign currencies without the need to hold those currencies.
This advantage is apparent especially in the current market environment with China keen on keeping capital outflows in check.
On the same point, Wang said SDR bonds can also play a role in helping investors manage their currency exposure.
This is particular important as investors buying into SDR-denominated notes can do so without relying on any derivatives product to hedge. This is vital for investors as China’s derivatives market is still in the early stages of development.
And just how underdeveloped the onshore derivatives market is can be reflected by the World Bank deal.
A second syndicate banker who worked on the sale pointed out that even though the 0.49% should in theory translates to about 2.4% once swapped into renminbi, that conversion was derived based on the offshore renminbi market instead of onshore rates.
“The 2.4% figure should only be seen as a theoretical number and purely for reference purposes only,” the syndicate banker stressed. “In reality, if you really want to swap it onshore, it’s very hard to do because the quotes for each constituent currency is not readily available on a daily basis and even if they are, the amount you can swap is limited.”
Early stages
Hua Chuang Securities analyst Ji Ling Hao agrees that Mulan bonds have a lot of potential as ultimately, they fit in with China’s aim to turn the renminbi into a top international currency.
The instrument is also helpful in terms of diversifying the product mix of China’s interbank bond market, where the bulk of the issuance revolve around bonds issued by the government, policy banks and financial institutions.
But in the short term, he thinks Mulan bonds are unlikely to gather much momentum due to the lack of SDR liquidity. To put things into perspective, the global supply of units was just SDR204.1bn as of March 2016 while the constituent currencies of the SDR have a daily trading volume of about $4tr.
Still, the World Bank has now provided a market opening trade although one Hong Kong based DCM banker said it is hard to tell whether this would be the template for others to follow given the lack of rules.
“It’s a foreign issuer issuing in onshore China, but it doesn’t seemed to have followed the same rules as Panda bonds,” the DCM banker pointed out.
Ever since Panda bonds were reintroduced in late 2015, all issuers have chosen to attain domestic ratings.
Moreover, only issuers which report their financials in PRC Generally Accepted Accounting Principles (PRC GAAP), Hong Kong Financial Reporting Standards (HKFRS) or International Financing Reporting Standards (IRFS) have been eligible to sell debt onshore.
But the World Bank does not meet either criteria as the bonds are unrated while its financials are reported in US GAAP. It was able to get a deal done thanks to an exemption by the Chinese regulators, Richardson told GlobalRMB.
“It’s hard to comment on how big Mulan bonds are going to become without even having a clue what sort of rules are they actually based on,” the Hong Kong DCM banker said.
“It’s hard for others issuers to follow since such exemptions are given on a case by case basis, which in turn makes it hard for banks to pitch the deals to them.”
ICBC was the lead bookrunner of the deal with HSBC as a co-bookrunner.
Agricultural Bank of China, Bank of China, Bank of Communications, Bank of Ningbo, Bank of Hangzhou, Bank of Tokyo-Mitsubishi UFJ (BTMU) CICC, Citi (China), Citic Securities, China Merchants Bank, Donghai Securities, and Export-Import Bank of China were joint underwriters.