When will the evidence of de-leverage show up?
As I mentioned in the previous post, leveraging up in the interbank market happened last year, primarily among the non-bank financial institutions, is based on a strong assumption that PBoC will keep rolling its daily open market operations. Borrow in the repo market for O/N, 7-day money to buy bonds of maturities as long as 30yrs. BTW, 30yr treasury and 20yr China Development Bank bond make you the biggest winner or loser as a fixed income market player last year, depending on when you got in and out(if you’re lucky enough to). The maturity mismatch, long on the asset end and extremely short and volatile on the liability side has been accumulated until the regulators decided to act upon it.
To answer when the effects of de-leveraging can be observed clearly, a way to make an estimation is to look at the banks’ behavior. Issuing CDs in the interbank markets and buy wealth management products offered by other banks, which later on are handed to non-bank financial institutions to invest in bonds, is a typical play last year. Borrowing cost, as measured by CD rates and SHIBOR has gone up by roughly 100bps since November 2016. That sharp increase in the price liability has been significant enough to eaten up the spread banks previously earn. The game of boosting size has come to an end and the time when banks terminate their contracts with funds and securities firms is the ending mark of this game. Before that, the assets has to be liquidated and selling pressure on bonds are expected. Banks do performance review on their portfolios on an annual basis and can ask for funding withdraw anytime during the year. New contracts are rarely made these days and it’s only a matter of when to terminate the old ones. Assuming half a year duration, March to May this year is probably gonna witness some market turmoil. Bottom line, don’t rush to buy now.
