China fixed income: too big to ignore?

Kevin Zhao explores some of the reasons why investors can no longer ignore the world’s second largest bond market, in the fifth episode of the Q&A series.

31 jul 2020

Kevin Zhao, Head of Global Sovereign and Currency, Fixed Income

Kevin Zhao is the lead portfolio manager on all active Global Sovereign and Flexible Fixed Income Strategies as well as Active Currency Management. In this role he is responsible for all investment decisions taken for and implemented in these strategies. He is a member of the Fixed Income Investment Forum, and joined UBS Asset Management in 2011.

What is the benefit of China onshore fixed income having lower correlation to other global markets? Is lower correlation expected to last?

The main benefits of including additional countries or assets to portfolios which have low correction with existing bond markets, are diversification and relative value opportunities.

We think over the next few years this low correction will stay for two major reasons; firstly, China stopped pegging its currency to the USD in 2005 and subsequently moved to a basket basis in 2016, which allowed China's monetary policy to diverge from the US and other G7 countries. Secondly, unlike central banks in G7 countries that have cut their policy rates to near zero or even negative in some cases and engaged in a variety of unconventional monetary policy measures in 2020, the Chinese central bank (PBoC), has been more cautious. It has ample room to cut rates if the economic outlook is much worse than expected.

Since the inclusion of Chinese bonds in the Bloomberg Global Aggregate, JPM GBI-EM and WGBI extended indices, foreign participation in China's onshore bond markets has risen significantly. In addition, many central banks have purchased Chinese government bonds since China's inclusion in the IMF’s (International Monetary Fund) SDR basket in 2016. In turn, this has resulted in a diversified pool of foreign investors alongside domestic buyers.

 

What can investors expect from the inclusion of Chinese bonds in global bond indices?

Once China's weight in global bond indices rises to around 6%,  investors, especially in global bonds, should be able to enhance portfolio returns as a result of the size of the opportunity set and the relatively low correlation that Chinese bonds have to other bond markets. However, investors must be familiar with China's economy and financial market structures; as we often say, "do your homework". UBS AM has been very early and proactive in entering China's equity and bond markets with a leading presence among foreign banks and asset managers. It is important for investors to understand that China is not a typical EM market nor should investors apply their experience and skills learnt from developed markets blindly to investment in China given drastically different political, economic and financial systems.

 

How important are emerging markets, and China in particular, in a global portfolio?      

We have been very vocal that the "New Global" is the G20 rather than the narrowly focused G7. G20 countries account for more than 80% of global GDP, trade, and financial asset capitalization, while G7 accounts for less than 45% of global GDP. China is already the second largest bond market in the world1, but it had zero representation in the bellwether Global Aggregate Bond Index before Bloomberg decided to include the country in April 2019. China's weight in this widely followed global bond index will rise to around 6% by the end of 20202. We believe that broadening bond investment from G7 to G20 countries will allow investors to achieve higher potential returns and better diversify portfolio risks.  

More about flexible fixed income investing

How can you navigate volatile fixed income markets and spot opportunities as they arise?

China Fixed Income

China's fixed income markets are integrating with the global economy and opening up a new world for global bond investors.

Read more

Latest fixed income insights

Asset Management services and solutions in your location

Please select your region

For further information on what we can offer you, please get in touch.

Important legal information

To proceed, please confirm that you are a professional / qualified / institutional client and investor.

Views and opinions expressed are presented for informational purposes only and are a reflection of UBS Asset Management’s best judgment at the time a report or other content was compiled. UBS specifically prohibits the redistribution or reproduction of this material in whole or in part without the prior written permission of UBS and UBS accepts no liability whatsoever for the actions of third parties in this respect. The information and opinions contained in the content of this webpage have been compiled or arrived at based upon information obtained from sources believed to be reliable and in good faith but no responsibility is accepted for any errors or omissions. All such information and opinions are subject to change without notice but any obligation to update or alter forward-looking statement as a result of new information, future events, or otherwise is disclaimed. Source for all data/charts, if not stated otherwise: UBS Asset Management.
Any market or investment views expressed are not intended to be investment research. Materials have not been prepared to address requirements designed to promote the independence of investment research and are not subject to any prohibition on dealing ahead of the dissemination of investment research. The information contained in this webpage does not constitute a distribution, nor should it be considered a recommendation to purchase or sell any particular security or fund. The materials and content provided will not constitute investment advice and should not be relied upon as the basis for investment decisions. As individual situations may differ, clients should seek independent professional tax, legal, accounting or other specialist advisors as to the legal and tax implication of investing. Plan fiduciaries should determine whether an investment program is prudent in light of a plan's own circumstances and overall portfolio. A number of the comments in the content of this webpage are considered forward-looking statements. Actual future results, however, may vary materially. Past performance is no guarantee of future results. Potential for profit is accompanied by possibility of loss. 
© UBS 2020 The key symbol and UBS are among the registered and unregistered trademarks of UBS.

Reset