China: Rising concerns over liquidity tightening - Nomura

Research Team at Nomura notes that China interbank market interest rates have risen significantly since November, with the 7d repo fixing briefly rising above 5% earlier in the week, its highest since December 2014, before easing on Thursday raising concerns over liquidity tightening.

Key Quotes

“The People’s Bank of China (PBoC) has now hiked its open market operations (OMO) rate twice, first in February and then in March. The market’s focus will now turn to how short-end liquidity evolves into and after the revamped Macro Prudential Assessment (MPA) due to at the end of March.”

“The PBoC’s intensified efforts to raise wholesale funding costs and rein-in financial in stability risks around shadow financing and property market speculation have caught the markets by surprise, and have led to many questions posed by clients in recent days.”

“Rates Strategy: We recommend 2s5s flatteners in repo-NDIRS as we expect the 7d repo to gradually catch up with other money market rates. On CNH CCS, we maintain a receive 1y1y outright and partially against a pay 3mfwd6m.”

“FX Strategy: We are short CNH against both the USD and an abridged CFETS basket, as the recent rise in funding costs could raise near-term downside growth/default risks and exacerbate the negative influences from medium-term structural resident outflows, US trade protectionism, US Fed hikes and European political risks.”

“Economics: A rise in interbank interest rates should rein in shadow banking activities, much of which is focussed on financial speculation. Negative sentiment due to rising default risks is the main short-term economic implication of this, as opposed to a real economic slowdown. Longer-term implications are mixed, as a deleveraging in shadow banking may squeeze property developers, LGFVs and small businesses but favour SOEs. The PBoC is unlikely to raise the benchmark interest rate, considering its neutral policy stance and structural headwinds in the economy against an official growth target of ‘around 6.5%’.”