Even China's Most Bullish Bond Analysts Say the Boom Has Ended

  • 10-year yield is forecast to rise as PBOC seen holding rates
  • Debt demand to diminish amid equity rebound, record leverage

Even China’s most optimistic bond analysts say the record stretch of gains in government debt is poised to end after yields fell to a six-year low.

The yield on 10-year sovereign notes will rise to 3.28 percent by year-end, according to the median estimate in a Bloomberg survey conducted Oct. 19-27, from 2.98 percent in secondary trading on Tuesday. Huabao Trust Co., the most bullish of 10 forecasters in the poll, says it will be little changed from Thursday’s level of 3 percent.

China’s government bonds are delivering positive returns for a fifth straight month in October after the central bank loosened monetary policy to support economic growth. Now, analysts see signs of a reversal as October gains in the Shanghai Composite Index reduce demand for haven assets and record leverage in the debt market fuels concern that policy makers will rein in bets using borrowed money.

"The stock market may be becoming attractive after quite a long adjustment, and policy makers may not want leverage in the bond market to be too high," said Nie Wen, an economist at Huabao Trust in Shanghai, who cut his year-end yield forecast from 3.45 percent in September. "Long-end yields will only fall further if the central bank keeps cutting rates," which is unlikely, he said.

The People’s Bank of China, which reduced its benchmark lending rate for the sixth time in a year on Friday, will keep it unchanged at 4.35 percent through the end of next year, according to the median forecast in the Bloomberg survey. Policy makers have also been using other tools to boost growth, including lower bank reserve requirements and increased funding for infrastructure projects.

The stimulus has helped propel the Shanghai Composite to a 11 percent gain so far this month, after the gauge lost as much as 43 percent from its June peak. That’s reviving demand for shares, with the number of new stock-market investors increasing for the past two weeks, according to China Securities Depository and Clearing Corp.

Meanwhile, concern is growing that regulators will curb speculative financing for the bond market amid a surge in leveraged bets. Repurchase transactions allowing investors to use their existing debt holdings as collateral to borrow money for one day doubled in the past year to an unprecedented 2.1 trillion yuan ($330 billion) last week.

As long as China’s economy shows signs of stability, the bond market is unlikely to keep rallying, according to SWS Research Co. The nation’s gross domestic product expanded 6.9 percent in the third quarter from a year earlier, the least since 2009, official data showed on Oct. 19. That pace will be maintained this quarter, according to Bloomberg’s latest monthly survey.

"Unless there’s a hard landing, there isn’t much room for yields to fall further," SWS Research analysts led by Shanghai-based Chen Kang wrote in a research note Wednesday.

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