In Historic Event, China Sells First World Bank SDR-Denominated Bonds In Decades

In one of the most closely followed bond issues in recent history, overnight the International Bank for Reconstruction and Development (IBRD), one of the five member-institutions of the World Bank Group, sold 500 million SDR-denominated three-year bonds carrying a coupon of 0.49% at an auction in China's interbank market on Wednesday. This was the first SDR denominated offering in over three decades, with the issuance symbolically taking place in Shanghai one month before the official inclusion of China's currency in the SDR basket. 

The issue, the first SDR bond in 35 years, is being closely watched by investors as it's part of a wider push in China to increase the net supply of such bonds, and comes as Beijing hosts the G20 summit in Hangzhou on Sept. 4-5. The SDR is a synthetic reserve currency administered by the IMF, whose value is determined by a basket of other major world currencies.

While some have speculated that the offering is a test toward internationalizing the SDR as a global reserve currency and putting the IMF at the forefront of a post-globalized world, with notable implications for the fate of the US Dollar as the global reserve, for now the consequences are more mundane: the SDR bonds that settle in RMB give Chinese domestic investors the option of getting exposure to different currency assets without investing overseas, says Ju Wang, a senior FX strategist at HSBC. According to PBOC deputy governor Pan Gongsheng the issuance of the SDR-denominated bond will help boost the stability of the international currency system.  Pan said the SDR bonds will help investors avoid exchange-rate risks and are a good way of making the reserve currency a more a market-oriented pricing tool. The PBOC will work with IMF to further expand the use of the SDR, he said.

The first issuance in China of bonds denominated in Special Drawing Rights was well received, Gongsheng added, as he pledged to expand the use of the International Monetary Fund's reserve currency. Speaking at a press conference, Pan, who is also head of China's foreign exchange regulator, said the bid to cover ratio was 2.5 with around 50 institutional investors bidding for the bonds, including domestic banks, brokerages, insurance companies and overseas central banks as well as international organizations and overseas financial institutions. Chinese government bond auctions typically have a bid to cover ratio of around 3.

The bonds, which will be settled in yuan, were the first batch of a planned 2 billion SDR issue that the IBRD has won approval to sell in the interbank market.

The global lender has got approval from the PBOC for a 2 billion SDR programme, and despite the apparent success of Wednesday's issue analysts say future demand for the bonds from local investors might prove tepid.

"We are not interested in SDR bonds and we can't see why Chinese investors should want these bonds since they can easily buy much higher yielding bonds in China," said a fixed-income fund manager in Hong Kong who invests both onshore and offshore debt markets.

Analysts say China will be keen to foster interest in the SDR debt programme as it steps up efforts to internationalise the Chinese yuan, and further liberalise its capital markets.

While the SDR issuance may lead to greater global adoption of the Chinese currency as an initial step, the Yuan will remain a risky currency from the perspective of investors despite its inclusion in IMF’s basket of reserve currencies, Market News International reports, citing Guan Tao, a former SAFE official.  “The yuan is a peripheral currency and a risky currency, not a safe-haven currency,” Guan is cited as saying in an interview.

Others were more optimistic, with HSBC saying the issuance will provide diversification in domestic investments for foreign investors who are accessing the Chinese market, but still buying government bonds or policy bank notes, Candy Ho, global head of RMB business development for global markets, says at a press conference today.  HSBC expects potential pickup in interbank bond market activity following the Special Drawings Rights issuance, while the SDR issuance and RMB inclusion into SDR will bring inflows from central banks and other foreign institutions.

As to the fate of the SDR - or the Yuan - as a global exchange currency, the jury is still out.