China Bond Sale Fails First Time Since June on Rate Outlook

China’s Ministry of Finance failed to sell all of the bonds offered at an auction today for the first time in 10 months amid speculation short-term interest rates will climb as corporate tax payments tie up funds.

The ministry sold 20.7 billion yuan ($3.3 billion) of one-year debt today, less than the planned issuance of 28 billion yuan, according to a statement on its website. The average yield of 3.63 percent compared with the median estimate of 3.4 percent in a Bloomberg News survey yesterday, when the yield on similar-maturity existing notes was 3.32 percent.

Commercial banks need to transfer corporate tax payments to the People’s Bank of China in the month after each quarter ends and this drains funds from the financial system. The seven-day repurchase rate climbed 74 basis points this week to 3.75 percent even as the monetary authority’s open-market operations added funds for the first time since January, with maturing repurchase contracts exceeding sales by 55 billion yuan.

“Demand for short-duration bonds isn’t good, because investors mostly expect an increase in rates in April and May,” said Min Shuai, a fixed-income analyst at Guotai Junan Securities Co. in Shanghai. “The yield curve is going to flatten, as short-term money market rates will climb further.”

The last government debt sale to raise less than planned was on June 14, during a record cash crunch that drove the seven-day repo rate fixing to an all-time high of 10.77 percent on June 20.

‘Pre-Emptive Approach’

“The auction result shows people who are concerned about rising rates outnumbered those who believe relatively weak funding demand will keep rates stable,” said Chen Peng, an analyst at Fortune Securities Co. in Shenzhen. “This week’s fund injection by the PBOC looks like a pre-emptive approach to a possible tightening of liquidity.”

The extra yield on 10-year government bonds over one-year notes widened to 142 basis points on March 25, the most since November 2010, before narrowing to 114 basis points yesterday, ChinaBond data show.

Declines in the yuan are fueling concern capital inflows will slow, reducing cash in the financial system. Increased sovereign debt issuance this quarter is also set to siphon off funds, according to Guotai Junan’s Min.

Cash Supply

Yuan positions at Chinese financial institutions accumulated from foreign-exchange sales rose by 128.2 billion yuan in February, the smallest gain since September. The local currency has retreated 2.7 percent from a 20-year high reached Jan. 14 to 6.2094 per dollar. The finance ministry has scheduled 16 debt auctions for this quarter, compared with nine in the prior period, according to a statement on its website.

“The recent depreciation has led to concerns over the growth of yuan forex positions, which constitutes a major part of money supply,” said Min. “Besides, much bigger supplies of sovereign bonds in the second quarter are also going to drain available cash at commercial banks.”

Commercial lenders are the biggest bond buyers in China, holding 64 percent of the 26.4 trillion yuan of outstanding securities as of March 31, data from the China Cental Depository & Clearing Co. showed.

— With assistance by Helen Sun

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