China rate cut boosts bond yields

A new round of gains for the nation's bonds is being heralded by China's surprise interest rate cut.

The benchmark 10 year China bond yield dropped by as much as six basis points to 2.67%, the lowest since May 2020, after the People's Bank of China unexpectedly reduced a key policy rate. Standard Chartered Bank Plc and Maybank Securities Pte say that the rally is not over.

The gains could help China's sovereign bond yield break out of a 15 basis point trading range over the past six months. On the back of a slow domestic growth, demand for the asset has been tempered by rising yields in developed markets fueled by aggressive rate hikes. Overseas investors sold the notes in recent months as the US Treasury yield climbed.

Becky Liu, head of China Macro Strategy at Standard Chartered Bank in Hong Kong said that the 10 year government bond yield may test 2.60% to 2.65% as the central bank's operation is likely to be a policy shift, highlighting the possibility of a more dovish PBOC ahead. She said that lowering rates to stimulate demand is a better solution for China than injecting additional liquidity when growth remains far from trend.

The PBOC lowered the rate on its one-year medium-term lending facility by 10 basis points to 2.75%, which is a change from expectations of 20 economists who had predicted that the rate would be left unchanged. It partiallyrolled over loans that were due this week, which withdrew liquidity from the banking system.

Winson Phoon, head of fixed-income research at Maybank Securities, said that the dovish signaling effect is expected to cap yields and push yields lower, while the 10 basis point cut to the seven-day reverse repo rates may not open up significant room for the repo fixings to go lower.

The partial rollover combined with the rate cut shows the central bank's desire to remain accommodative while signalling concerns about rising leverage in the bond market due to excessive liquidity. Credit data showed that new loans and bond issuance weakened in July. A surveyed jobless rate fell while industrial production and retail sales came in under forecasts last month.

Frances Cheung, Rates strategist at Overseas Chinese Banking Corp in Singapore, said that the unexpected rate cut shows that policy makers may see more downside risk to the growth outlook, and that China government bonds will be supported as well as the weekend releases of the aggregate financing data that suggests weak credit demand. No How Employers Benefit From Unlimited Paid Time Off