PBOC Tries To Pop Equity Bubble, Tightens FX & Slashes Collateral/Margin Availability; Yuan Crashes Most Since 2008

Unlike the Federal Reserve - which openly encourages speculative wealth creation/redistribution and has never seen an equity bubble it didn't believe was contained - the PBOC appears, by its actions tonight, to be concerned that things have got a little overheated in its corporate bond and stock markets as hot money ripped into the nation's capital markets on hints of further easing and QE-lite a few months ago. In a show of force, the PBOC simultaneously fixed CNY significantly stronger (implicit tightening) and enforced considerably stricter collateral rules on short-term loans/repos. With Chinese stocks concentrated is even fewer hands than in the US (and recently fearful of the surge in margin trading), it appears the PBOC is trying to stall the acceleration is as careful manner as possible. The result, as Bloomberg notes, is a major squeeze in CNY (biggest drop since Dec 2008), interest-rate swaps ripped higher along with corporate bond yields,  and most Chinese stocks sold off (with two down for every one up) though the latter is stabilizing now.


The actions... (via Reuters)

China Securities Depository and Clearing Corp (CSDC) said in an announcement after the market closed on Monday that with immediate effect, only corporate bonds with the highest rating of AAA and those issued by firms with a high rating of AA and above could be used for bond repo business.


Analysts say the regulators' exclusion of lower grade bonds from being used in bond repurchase contracts, a key source of secondary liquidity in trade, increases the risk of trading such bonds, depressing demand and putting upward pressure on yields.


The move follows through on a decree issued by the State Council, China's cabinet, in early October to clear debt issued by local government financial vehicles (LGFVs), even though the CSDC's ban apparently covers a wider range of corporate bonds, the announcement shows.


"Along with the clarification and clearing of local government debt, our company could take further steps to compress and clear related bonds already being included in the collateral in line with market risk conditions," the announcement said.


Given that more than 1 trillion yuan of outstanding corporate bonds are now deposited at the CSDC, analysts estimate that around 500 billion yuan of the bonds will be excluded from the repo business starting Tuesday, with the yields of credit bonds possibly being pushed up by a few dozens of basis points as their prices fall.

And a considerably stronger fix in CNY...

The fallout:

“As low-rated bonds cannot be used for repurchases on the exchange, this will force many financial institutions to deleverage,” said Zhou Hao, a Shanghai-based economist at Australia & New Zealand Banking Corp. “When there’s a liquidity issue, all bonds are sold off. They want to grab liquidity first today as you don’t know what will happen tomorrow.”


China Development Bank bond yields rose nearly 30 basis points at market open on Tuesday, traders said, as the market reacted to new corporate bond market restrictions announced on Monday afternoon.


The benchmark government bond future contract also reacted, sliding over 1 percent in morning trade.


The yield on government debt due October 2019 surged 14 basis points, the most for a five-year note since November 2013, to 3.88 percent, according to prices from the National Interbank Funding Center.


The yield on Kashi Urban Construction Investment Group Co.’s 800 million yuan of debt due November 2019 climbed 75 basis points to 7.17 percent, the biggest jump since July, exchange data show. The issuer is an LGFV.


Interest-rate swaps...

China’s interest-rate swaps climbed to a three-month high, bonds dropped and stocks retreated after policy makers narrowed the pool of corporate debt that can be used as collateral for short-term loans.


China Securities Depository and Clearing Corp. has stopped accepting new applications for repurchase agreements that involve notes rated below AAA or sold by issuers graded lower than AA, according to a statement posted on the agency’s website yesterday. The move means that about 470 billion yuan ($76 billion) of outstanding corporate bonds regulated by the National Development and Reform Commission can no longer be pledged for repos, according to Haitong Securities Co.


“The regulation will damp investor demand for lower-rated corporate bonds,” said Yang Feng, a Beijing-based bond analyst at Citic Securities Co., the nation’s biggest brokerage. “That may result in higher borrowing costs for local government financing vehicles.”


One-year interest-rate swaps, the fixed payment to receive the floating seven-day repurchase rate, rose 12 basis points to 3.50 percent as of 10:05 a.m. in Shanghai, according to data compiled by Bloomberg. It earlier jumped as much as 29 basis points to 3.67 percent, the highest since August.


Despite strongest FIX since March...



Most Chinese stocks fell after the benchmark index reached the most expensive level in three years and stricter collateral rules for short-term loans prompted investors to sell liquid assets.


China's Shanghai Composite Index fell as much as 1.5 percent.


Industrial & Commercial Bank of China Ltd. and China Construction Bank Corp. slumped at least 3 percent. China Securities Depository and Clearing Corp. stopped accepting new applications for repurchase agreements that involve notes rated below AAA or sold by issuers graded lower than AA, according to a statement posted on the agency’s website yesterday. China Oilfield Services Ltd. slid 3.6 percent in Hong Kong after crude declined to the lowest level in five years.


The Shanghai Composite Index (SHCOMP) dropped 0.1 percent to 3,018.67 at 10:37 a.m. local time, with two stocks falling for every one gaining.


“There’s a correction in the Shanghai Composite now after rising a lot the past days"

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Of course - it is not holding as bond market weakness is provbiding the unintended consequence of helping stocks stabilize...

and is now at new record highs as speculators gamble on fighting the PBOC...


But Hang Senf is fading rapidly



despite the PBOC's fear of leverage...

The regulation change is intended to reduce leverage in China’s stock market...


This is because equity rally has much to do with leverage, and more than 80 percent of flows are retail and come with material increase in leverage, Liu says in phone interview.


“Securities firms that provided personal loans to retail investors would borrow money via repos, and the regulation change triggered a liquidity squeeze”: Liu


Move more likely to make leverage less risky rather than curb stock performance, but that’s the chain effect: Liu

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In summary:

  • The PBOC has aggressively taken action to reduce leverage in stock and bond market speculation
  • The PBOC has tightened monetary policy - raising FX and cutting collateral availability
  • The PBOC has created a major squeeze in USDCNY - stalling carry trades

We will see what kind of fallout this creates but for now stocks are holding up as FX and bond markets are turmoiling