China Swap Rate Drops Most in Year as Bond Income Escapes Tax

  • Policy bank bond yields, benchmark repo rates both decline
  • Further downside for bonds is limited, Citic analyst says

China’s one-year interest-rate swaps declined by the most since April 2015 after the Ministry of Finance said it won’t tax the interest income on short-term financing tools and policy bank bonds.

Financial institutions’ interest income from repurchase agreements using bonds as collateral as well as income from bonds issued by policy banks will both be exempted from the tax, MOF said in a statement posted on its website Friday night. The cost of one-year swaps, the fixed payment to receive the floating seven-day repo rate, dropped 13 basis points to 2.54 percent as of 4:30 p.m. in Shanghai, according to data compiled by Bloomberg. Policy bond yields and benchmark money-market rates also retreated.

Money rates and bond yields had recently jumped amid speculation a taxation change would add additional costs. The nation’s bond market capped the biggest decline in 13 months in April on concern over the possible adoption of a 6 percent value-added tax on policy financial bank debt, stabilizing growth and rising defaults. Any sustained increase in borrowing costs could challenge the government’s efforts revive the economy with cheap credit.

“Friday’s notice removed market concerns that the taxation change could lead to higher financing costs,” said Ming Ming, Beijing-based bond analyst at Citic Securities Co. “We expect the pressure for further correction in bonds to ease.”

Yields Slump

The yield on notes issued by China Development Bank due April 2026 fell six basis points to a two-week low of 3.37 percent on Tuesday, according to National Interbank Funding Center prices. The yield on benchmark 10-year CDB notes advanced 18 basis points last month, the most since May, ChinaBond data show.

The People’s Bank of China auctioned 100 billion yuan ($15.4 billion) of seven-day reverse repos on Monday, draining a net 220 billion yuan for the day as maturing contracts exceed new issuance. The seven-day repo rate, a benchmark gauge of interbank funding availability, fell 10 basis points to 2.30 percent, according to a weighted average from National Interbank Funding Center. The yield on sovereign notes due January 2026 gained one basis point to 2.93 percent, National Interbank Funding Center prices show.

— With assistance by Helen Sun

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