China Sovereign Bonds Decline in May Amid Deleveraging Concerns

(Bloomberg) -- Chinese government bonds posted their second monthly decline in a row, weighed down by concerns of a crackdown on leverage in the financial system.

The 10-year yield has advanced 17 basis points so far in May to 3.65 percent, according to data compiled by Bloomberg. That follows an increase of 18 basis points last month.

China's debt market has been hit especially hard by the campaign to reduce the level of borrowing, with both sovereign and corporate yields surging. Moody's Investors Service chimed in on the scale of the challenge last week, downgrading China's credit rating and saying that the effects of the deleveraging drive won't be felt quickly enough.

“The regulatory tightening and concerns over liquidity have driven yields higher,” said Chen Peng, a fixed-income analyst at Fortune Securities Co. in Shenzhen. “The same factors will probably continue to concern investors.”

The nation's money market is showing evidence of the People's Bank of China's tighter policy, with the benchmark seven-day repurchase rate averaging 2.93 percent this month, compared with 2.31 percent a year earlier. The gauge was last at 2.84 percent.

The 10-year bond yield's gap with U.S. government debt was at 142 basis points, near the widest in 10 months. One-year interest-rate swaps fell six basis points to 3.59 percent as of 5:30 p.m in Shanghai, heading for the first monthly drop since January.

In China's currency market, the onshore yuan headed for a monthly advance of 1.2 percent to 6.8173 per dollar, the most since March 2016. The offshore exchange rate surged 0.8 percent for the day and added 1.8 percent for May. The currency strengthened beyond its 200-day moving average on Friday for the first time time the August 2015 devaluation.

The exchange rate rose more than 0.8 percent in the final three days of last week amid suspected intervention from the PBOC. Chinese banks were seen selling dollars in the onshore market on May 25.

There was increased attention on Wednesday's fixing -- which the PBOC used to devalue the currency in August 2015 -- after a government statement Friday saying China may add a “counter-cyclical factor” to the mechanism. Analysts said the change would give authorities more control over the rate and restrain the influence of market pricing. The central bank strengthened its daily reference rate by 0.09 percent on Wednesday to 6.8633 per dollar.

To contact Bloomberg News staff for this story: Helen Sun in Shanghai at hsun30@bloomberg.net.

To contact the editors responsible for this story: Richard Frost at rfrost4@bloomberg.net, Robin Ganguly, Sarah McDonald

With assistance from Helen Sun