Hong Kong China Bond Connect – How to get exposed to the second largest bond market in the world
by Eric Tso, Fixed Income Analyst, JK Capital Management Ltd., a La Française group-member company
History of Bond Connect
In May 2017, the People’s Bank of China (PBoC) and the Hong Kong Monetary Authority (HKMA) jointly announced the Bond Connect initiative, with the program officially commencing on 3 July 2017. Like the Stock Connect, it aims to provide mutual market access for bond investors between Mainland China and Hong Kong, allowing foreign investors to gain access to the RMB denominated domestic bond market. Currently, only Northbound Trading (i.e. overseas investors buying/selling Chinese onshore bonds) is allowed.
Prior to Bond Connect, the channels for overseas investors to participate in China’s onshore bond market were limited in scope and had their own restrictions. They include QFII, RQFII and China Interbank Bond Market. With Bond Connect being the fourth channel, it aims to enhance operational efficiency for overseas investors, particularly regarding account opening and trade settlement. Another aim for the Bond Connect was to encourage potential inclusion of China onshore bonds into major global indices. This was achieved in 2019 when Bloomberg included Chinese Government Bonds and policy banks bonds into the Bloomberg Barclays Bond Index (with a 6% weighting) as well as JP Morgan which included several highly liquid Chinese Government bonds into several bond indices.
Overview of Bond Connect: How does Bond Connect work?
Under Bond Connect, investors send settlement instructions to the Hong Kong Central Moneymarkets Unit (CMU), which acts as the nominee holder of these securities and settles with onshore clearing houses.
As such, overseas investors do not have to open an onshore account but instead are allocated a CMU account number for the settlement process. The CMU can provide certificates as proof of investors’ bond holdings which are recognized by PBoC.
To buy and sell bonds, investors need to send a request for quote (RFQ) to selected participating onshore dealers on offshore trading platforms (e.g. Bloomberg or Tradeweb) and subsequently lift/hit the most favourable price quote. These offshore trading platforms are connected to the onshore trading platform CFETS (China Foreign Exchange Trade System). Once a trade is completed, CFETS sends the trade information to two onshore central securities depositories: Shanghai Clearing House (SHCH) and China Central Depository & Clearing Co. Ltd. (CCDC)
The funding currency can be either offshore Renminbi (CNH) or foreign currencies. Investors can choose to exchange foreign currencies or CNH for onshore Renminbi (CNY) using prevailing exchange rates through offshore banks. Note that the repatriation currency should always be the same as the funding currency...