The Conrad Group

Untapped Capital: China’s RMB Bonds

Game-changing phenomena often begin with subtle events that pass virtually unnoticed, and so it shall be for what is now called “Dim-Sum debt.” The Chinese government in April 2009 announced a pilot program to allow Chinese companies in selected mainland regions to settle cross-border trades in RMB through Hong Kong and Macau clearing banks, with the first RMB settlement occurring in July 2009. In July 2010, the Hong Kong Monetary Authority (HKMA) and the Peoples’ Bank of China took the program one step further by revising the agreement to allow personal and business customers to transfer RMB within the Hong Kong financial system, enabling depositors to move cash into investment products. These relatively benign actions unleashed a tsunami of capital from the mainland with RMB deposits in HK (referred to as CNH as their off-shore equivalent) increasing by 45% in a single month from September to October 2010.

Today, there are $72 billion U.S. dollars worth of RMB deposits in Hong Kong – a figure that continues to grow by 10% every month. It is estimated that by late 2012, RMB deposits will exceed $200 billion, and by 2013 approach $600 billion. Where is the money coming from? Mainland China, which is awash in liquidity with a red-hot property market and a torrent of fresh money coming into the country from Federal Reserve Chairman Ben Bernanke’s printing presses. The Chinese government, mindful of increasing inflation, is also keen to see capital outflows increase, thereby easing pressure on the Chinese economy and currency. It is also a way for the Chinese fiscal authorities to begin taxing an estimated $1 trillion in capital that is currently stuffed under the proverbial mattresses.

The “Game Changer” of course is the fact that there are now billions in RMB deposits sitting in Hong Kong banks, parked by Chinese investors hungry for overseas investment opportunities. The prime investment vehicle, we believe, will be the RMB denominated Convertible Bond. This product will enable Chinese investors to invest in RMB denominated debt with the ability to convert that debt into equity in a non-Chinese investment opportunity. It will also enable other investors to participate in opportunities denominated in RMB, a currency that is expected to appreciate in the coming years.

But all investments are not created equal, and Chinese investors clearly have a preference for certain types of asset classes. In short: Real Estate, Hospitality & Leisure, Casinos, Mining and Resources, and the countries/regions they like the most: Australia, Brazil and Latin America. This new vehicle has created numerous financially attractive opportunities. For Australian real estate developers who have found themselves without project financing after 2008, issuing convertible Dim-Sum debt could be the optimal solution, as this will provide them with a source of low-cost capital while concurrently enabling Chinese investors to participate in the underlying development upon conversion. For Latin American mining or energy operations, that same principle would apply, and issuing Dim-Sum secured convertible debt to both parties would minimize risk while creating significant benefits for both sides. This also would create a way for global investors to participate in the growth of the Chinese economy without direct exposure to China as the Australian and Latin American economic growth stories are directly linked to that of China. Synthetic versions of Dim-Sum debt can even give investors the option to receive coupon payments in an alternative currency like Australian dollars, which could be quite helpful for Chinese investors who have children studying abroad in Australia.

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