China bond index inclusion to see $286 billion passive inflows

The full inclusion of China's bond index in global bond indexes could bring $286 billion in passive inflows, Standard Chartered bank said on Tuesday. China's bond index has an 80 percent chance of being included in one of three regional or global bond indices in their 2018 reviews, the bank said in a report.
The three bond indices are the Government Bond Index-Emerging Markets Global Diversified Index (GBI-EM), the World Government Bond Index (WGBI) and the Global Aggregate Bond index (Global Agg).
Foreign accessibility to China's debt market, the world's third largest at around $9.5 trillion, has met "hard" criteria for index inclusion, including tradability of onshore bonds, the absence of capital control and foreign exchange hedgeability, the bank said.
China launched the Bond Connect scheme in July, the latest step in opening up its bond markets, under which eligible institutional investors in Hong Kong and abroad can buy and sell in the Chinese bond market without a quota.
However, the country still needs to cover gaps in some "soft" criteria, including the delivery versus payment issue, lack of readiness of global custodian and local settlement banks to offer full services under the Bond Connect, and the need for further clarifications on tax.
"As such, the odds of immediate inclusion are low but should rise substantially once these issues are resolved, likely in 3-6 months," the bank said.
On full inclusion, Standard Chartered estimated that passive inflows to China will reach $286 billion, with the bulk of the outflows from G3 ($222 billion) and other developed markets ($36 billion) rather than emerging markets ($28 billion).
China bonds will reach the cap of 10 percent weighting on inclusion in the GBI-EM, and in the range of 5-6 percent on full inclusion in the WGBI and Global-Agg, the bank said.
"We expect such inflows to be an underlying positive for the Chinese yuan, as they represent longer-term, and stickier, real money allocations. We do not expect Beijing to allow the yuan to appreciate quickly, but rather to offset these expected inflows with reduced capital controls on outflows." Offshore institutions have been gradually raising their holdings of Chinese bonds this year though their market share remains quite small.
Holdings of Chinese treasury bonds by overseas investors rose to 559.1 billion yuan ($84.6 billion) in October, the eighth straight month of increases, accounting for 4.7 percent of Chinese government bond holdings.