Latest / China Economy with Fexingo: Beijing's Policies, Trade, and Asia-Pacific Markets / Why China Bond Yields Are Falling While Stocks Struggle
Transcript
- Lucas: China's ten-year government bond yield just hit a 22-year low. We're talking below 1.9 percent as of this week. That's lower than it was during the depths of the pandemic. Luna: And yet Chinese stocks are getting hammered. FXI down 1.7 percent in five days, KWEB off more than 3.5 percent. So the classic 'risk-off' story doesn't quite fit. Lucas: Exactly. Normally when equities fall, bonds rally because investors flee to safety. But here the bond rally has been going on for months, and it's not just a flight to quality. It's structural. Luna: Structural how? You mean demographics? Lucas: That's a big part of it. China's working-age population has been shrinking since 2022, and household savings rates are still around 35 percent of disposable income. All that money needs a home, and banks, insurers, and pension funds are mandated to buy government bonds. Luna: Right, the savings glut argument. But yields have been falling for a while. Why is it accelerating now? Lucas: Two triggers this spring. First, the PBOC cut its one-year medium-term lending facility rate by 10 basis points in May. Second, regulators pushed through new capital rules for insurers that effectively force them to hold more duration. So you've got this wave of institutional buying compressing yields further. Luna: And the property sector still isn't generating enough credit demand to soak up that savings. Developers aren't borrowing, households aren't borrowing for mortgages. Lucas: That's the key. The property recovery has been stabilizing — we talked about that a few episodes ago — but it's stabilizing at a much lower level of activity. So the pool of savings that used to flow into real estate is now flowing into bonds. Luna: Which means the PBOC can keep policy loose without worrying about inflating a new asset bubble. At least not in property. Lucas: And they're clearly comfortable with lower yields. The question is what this means for foreign investors who've been buying Chinese bonds for the carry trade. At 1.9 percent, the spread over US Treasuries — which are around 4.3 percent — is only about 240 basis points. That's narrow by historical standards. Luna: Especially with the yuan at 6.77 per dollar and not showing much appreciation pressure. If you hedge the currency, the carry almost disappears. Lucas: Right. So foreign holdings of Chinese bonds actually dipped in April for the first time in six months. The data lags, but the direction is clear. The yield advantage just isn't compelling enough to offset the currency risk. Luna: And yet the PBOC probably isn't worried about that. They've been leaning against yuan depreciation anyway, and lower bond yields help the fiscal side — the government can issue more debt cheaply to fund stimulus. Lucas: Which brings us to the paradox: bond markets are signaling that China's growth potential is lower for longer, while equity markets are still pricing in a recovery that hasn't materialized. That disconnect is what makes this moment interesting. Luna: Speaker of interesting — I saw Aswath Damodaran was quoted saying SpaceX is too richly priced. Is there a parallel here? Lucas: Damodaran's whole framework is about discounting future cash flows at a required rate of return. If China's risk-free rate drops to 1.9 percent, the discount rate for Chinese equities also drops, which should theoretically lift valuations. But the equity risk premium has expanded because of trade tensions, geopolitical risk, and weak earnings momentum. Luna: So the lower risk-free rate is being offset by a higher risk premium. Net effect: stocks don't get a valuation boost. Lucas: Exactly. And that's what we're seeing. FXI is down 1.7 percent this week, BIDU down 8 percent, NIO down over 10 percent. The bond market is saying 'slow growth forever,' and the stock market is saying 'we already know that, and there's no catalyst.' Luna: It occurs to me that this kind of deep-dive analysis is exactly why we keep this show ad-free. We don't have to pander to sponsors or sell you a narrative. If walking through the economy with us has made something click, you can support that choice at buy me a coffee dot com slash fexingo. Lucas: And it's a small way to keep the conversation independent. No pressure, truly. Just if it's valuable to you. Luna: Alright, back to yields. So what's the one number a listener should walk away with? Lucas: I'd say watch the ten-year yield at 1.9 percent. If it breaks below 1.8, that's a signal that the bond market thinks the PBOC will need to cut rates again. And if it holds, it's a sign that the structural demand for bonds is strong enough to keep yields capped even if equities recover. Luna: And for anyone trying to trade the carry, the yuan-dollar spread is the one to watch. If the yuan weakens past 7 per dollar, the carry trade becomes a losing proposition for unhedged foreign investors. Lucas: Right. So bond yields, currency, and the PBOC's next move are all intertwined. We'll keep tracking it. Luna: Next episode, we're looking at why South Korea's Kospi plunged 7 percent today — and whether it's just about Middle East tensions or something deeper. Lucas: That's a big one. See you then.