Illustration by Davis Cartoons
By Paolo Danese
HSBC’s very name goes a long way to explaining the bank’s multi-decade investment in China and, with an eye to China’s economic globalization, the expansion of the renminbi services it offers to clients around the world.
To be fair, the bank’s bet on renminbi internationalization (Rmbi) seems to have been settled already. HSBC has a wide margin on the competition across product lines, as shown once again in this year’s Asiamoney offshore renminbi survey. The bank consistently won nearly half of all votes for each of the categories assessed, ranging from renminbi liquidity management and FX to renminbi bond origination and fund investment.
Of course, HSBC could just rest on its laurels. But when it comes to China, things are rarely straightforward. The ever-changing nature of the renminbi market itself, with new regulations issued on a near-weekly basis, is the first challenge. The constant shifting of the boundaries of what is permitted and what is not means that all banks have to be constantly on their toes to make sure their renminbi products offer added value.
To top it all off, the market was upended in the summer of 2015, when what seemed like an unstoppable rise in the renminbi quickly turned into a very awkward tumble.
The People’s Bank of China decided on August 11, 2015 that a sudden change in its daily fixing mechanism and an accompanying one-off devaluation would show that it was on the way to a fully floating renminbi.
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The result was a protracted war in the renminbi onshore and offshore currency markets, with the PBoC on one side and a growing army of bearish investors on the other.
The PBoC ultimately emerged victorious, at least in some ways, with the onshore renminbi up by 1.9% this year against the dollar after falling nearly 7% in 2016. However, the flipside of that was the broader Rmbi strategy becoming collateral damage in the fight for control over the renminbi’s fate.
All the key players have had to reconsider over the last two years and acknowledge the scale of the challenge that those events posed to their renminbi aspirations.
This also applied to the likes of Bank of China (Hong Kong) (BoCHK). The bank has been the sole clearing bank for renminbi business in Hong Kong since 2003, as well as the sole settlement bank for the Stock Connect scheme and a designated liquidity provider by the Hong Kong Monetary Authority. The vantage point made the bank all the more aware of how consequential the shifts in the market have been.
“A large portion of our clients held renminbi deposits for higher returns,” says Yang Jiewen, head of the renminbi business division, economics and strategic planning department, BoCHK. “After it started depreciating and with the yields of renminbi assets decreasing, some clients have switched back to US and Hong Kong dollar.”
Xuping Yang, head of the global marketing group, East Asia, global markets division for the East Asia region, MUFG, told Asiamoney that renminbi depreciation had made the business environment very difficult.
“Look at CNH deposits in Hong Kong, which dropped by almost 50% from their peak,” he says. “When the renminbi depreciates, corporates tend to switch away from the currency for their trades, especially if they believe the renminbi will depreciate further in the future. As a result, renminbi-denominated trade fell as well, and this also impacted the FX volumes involving renminbi.”
Other metrics confirm that picture, with the currency falling from fifth place in the global Swift payments rankings in December 2015 to seventh place in April 2017, not to mention the disintegration of the once-buoyant offshore renminbi bond market, often referred to as the dim sum market. In the whole of 2016, only 22 deals were priced, compared with 90 in the previous year. In 2017 so far, a grand total of two syndicated deals have been priced.
“2016 was challenging”
The speed of the reversal has put banks on the spot. On the one hand, they must continue showing support for the Chinese authorities’ empty slogans about a growing global role for the renminbi, as well as facilitate their own clients’ desires to expand in the China market and better understand the possible benefits of using its currency in trade and investment.
On the other hand, the renminbi depreciation against the dollar and the Chinese regulators’ own ham-fisted attempts at reintroducing capital controls to stem capital outflows caused other foreign corporates and investors to question the entire endeavour. This was not helped by the fact that the regulators reintroduced such capital controls via so-called window guidance, meaning without the issuance of precise guidelines but mostly, Asiamoney understands, through informal conversations encouraging banks to suspend certain types of cross-border renminbi services.
Banks are generally reluctant to speak about the matter, but acknowledge the impact of such conversations with the authorities.
“There was some impact on clients [from window guidance], for example in the Shanghai free trade zone (FTZ), where the businesses were doing cross-border bank loans and cash pooling,” says MUFG’s Yang. “Because of the capital controls, the trading volume has also reduced significantly.”
Even the larger players – often the most enthusiastic supporters of the Rmbi project, have had to come to terms with this new landscape.
“For trade, treasury and cash management, 2016 was challenging,” says Vina Cheung, global head of renminbi internationalisation, global liquidity and cash management, Asia-Pacific, HSBC.
But Cheung notes that, despite the rough patch, commercial payments volume in the Swift MT103 format – used for international cash transfers – denominated in renminbi actually saw a 16% increase globally throughout last year. While that growth may be surprising in some respects, the Chinese market has gained such heft that it is increasingly difficult for companies to even consider stepping back, regardless of the outlook.
“China has become one of the biggest businesses for our multinational clients,” says Sandip Patil, Citi’s Apac regional head of liquidity management, treasury and trade solutions. “For more than 70% of MNC clients, China is now their top three or top five operations globally.
“While that speaks for the opportunity, managing China business is equally challenging. But not all challenges are unique to China. For example, we don’t think the volatility in the currency markets is unique to China. We have seen that in all EM currency markets.”
|"China’s bond market is the world’s third-largest but take-up has been small” |
- Candy Ho, HSBC
The sanguine attitude is easier to understand because of the slowly improving outlook for the currency this year. But even in the midst of the crisis, banks have been skilled at leveraging the situation to expand their service offering to clients, with renminbi hedging a classic example.
“In the past, clients would not hedge as the renminbi was a one-way currency,” says Carmen Ling, global head of renminbi solutions for corporate and institutional clients, Standard Chartered. “Now, because of the volatility, we see a lot more requests from clients on how to manage their renminbi exposure and risk in this market situation. In the past it was more siloed, now we tend to offer more diversified solutions to clients.”
MUFG’s Yang agrees that derivatives have become a more prominent offering: “Despite this tough environment, we support our clients by providing hedging products, such as USD/CNH forwards, FX swaps and single rate forwards in collaboration with our renminbi experts in China.”
Another example is around the capital control measures, which hit particularly the FTZs in the cities of Shanghai and Tianjin, as well as the provinces of Guangzhou and Fujian. Those special zones had been set up to experiment with near-complete freedom of the capital account; as a result they were also the first targets of the window guidance campaign by PBoC and the State Administration of Foreign Exchange (Safe).
The blanket suspensions caused frustration across the board, but they also offered the banks an opportunity to step up their advisory game for affected clients. Citi was one such bank liaising with the regulators to negotiate ad hoc exceptions.
“Managing cross-border activity efficiently is an area where we are leading, and we have picked up market share significantly,” Patil notes. “For example, in terms of complex treasury solutions implemented in the Shanghai FTZ in 2016, we emerged as the biggest bank. We continue to lead with transaction volumes in Beijing on facilitating cross-border activities for goods and services.”
With restrictions slowly lifting recently, transaction bankers are also looking at new avenues for business growth.
For HSBC, one way to achieve that has been through targeting particular sectors.
“In the oil and gas sector, for example, they are looking to improve liquidity and cash management structures because of the lower oil prices,” says Cheung. “This is pushing the sector to think about cost savings. They know China is going to be a key market for years to come, and we are discussing how renminbi enablement and adoption can benefit them by improving cost management and generate financial benefits. Another sector is retailers. They have a strong supplier relationship with China – settling trades in renminbi can help them strengthen the buyer-supplier relationship and generate savings.”
The banks’ perseverance can also be attributed to China’s peculiar status. This is a country that is simultaneously the second-largest global economy and one where strict controls still exist on the flow of capital and the currency’s exchange rate.
While those restrictions may frustrate market participants in the short run, they also contain the promise of huge potential gains for banks and corporates that are able to navigate China’s liberalization efforts.
It is the increasing liberalization of those capital flows, at least as far as inbound investments are concerned, that have given banks new routes for expanding their renminbi businesses.
Despite the qualified foreign institutional investor (QFII) scheme and its successor renminbi QFII having been around over a decade, most global money managers have yet to make substantial bets on the onshore debt and equity markets. Foreign ownership levels remain pitifully low, averaging less than 2% of total market size for the two asset classes, thanks to the complexities of the access programmes and the lack of adequate information about these markets outside of China.
But all that is changing, thanks to a couple of developments.
The first was the inclusion of the renminbi in the IMF special drawing rights basket in October 2016.
While the inclusion itself was of little importance in terms of immediate investment flows, it did give the renminbi an official recognition of global status. And with the foreign official institutions having been given quota-free access to the over $9 trillion China interbank bond market (CIBM), banks are expecting to see those flows surge.
Some have actually made the investor category a priority.
“We have been promoting renminbi investments among central banks and sovereign wealth funds to secure market share following the inclusion of the renminbi in the IMF’s SDR basket,” says BoCHK’s Yang. “Central banks and SWFs will be an important client segment for us in the next few years. Currently, we have more than 60 central banks and SWF clients. As we expect renminbi to account for more than 5% of global foreign exchange reserves in the next three years, amounting to $350 billion to $400 billion, it will bring new impetus to our business if we can secure market share in this segment.”
The other development has been the opening of CIBM to the broader audience of global institutional investors. The first step was taken in March 2016, when a quota-free direct access programme (known as CIBM Direct) was launched that only requires the opening of a trading account with an onshore settlement agent bank. A more recent announcement was that of the upcoming bond connect between China and Hong Kong, scheduled to launch as early as July, which will eliminate even the need for onshore account opening to trade Chinese bonds.
“China’s bond market is the world’s third-largest but take-up has been small,” says Candy Ho, global head of renminbi business development, markets, HSBC. “As of May, foreign ownership was less than 2% of the total market, which is small compared to developed markets, where it typically stands at 30% to 50% – like in the Eurobond and US bond markets. Even by emerging markets standards, Asian EMs have foreign ownership levels of 10% to 30%. But we see the very large potential of increased holdings. This is coming up in a lot of client discussions; investors are looking to increase China exposure, and we have already had a lot of success in onboarding clients and getting custodian mandates to facilitate access to China’s bond market.”
StanChart’s Ling agrees that the opening of CIBM was the landmark moment of 2016, and the one with the greatest potential.
“A lot of clients are still making sure that the plumbing works,” says Ling. “The FX outlook for the renminbi also made overseas investors hesitant about going onshore. But we are seeing interest pick up now since the renminbi depreciation cycle may be ending in the foreseeable future. Other factors are the US interest rate cycle having become more certain, as well as the inclusion of Chinese bonds in global indices. Two providers have already started to include them, with one of them starting trading in February 2018.”
|“In the past, clients would not hedge as the renminbi was a one-way currency" - Carmen Ling,|
The liberalization has not just targeted the buy side. The re-opening of the panda bond market – the market for foreign issuers tapping the onshore renminbi bond market – has given global issuers access to a vast new market, as well as providing a stepping stone in building capabilities for the investment banks that already have onshore underwriting licences, such as HSBC and StanChart.
While 2016 saw the near disappearance of the dim sum bond market, pandas soared from a handful of deals in 2015 to 41 in 2016.
“We are seeing huge amounts of interest in pandas. Last year we saw some significant landmark transactions like the Republic of South Korea and Poland,” notes HSBC’s Ho.
And dealmaking has not stopped this year, with nine pandas priced as of the end of May, including issues from the likes of automotive giant Daimler, Hong Kong-listed Car Inc and Russian aluminium firm Rusal.
The extent of the changes has meant, at least for some, nothing less than a complete reformulation of the renminbi business model.
“That model was very simple: we would collect renminbi deposits here and allocate them to the mainland; but in the future, we cannot do that,” says BoCHK’s Yang. “We have to help our clients explore and create value, we have to find investment tools other than deposits so that clients can enjoy higher returns. And with the relaxation of China’s investment policies, investors overseas will know more about the China market and look for higher returns.”
The opportunities may be there across investments and more vanilla trade-related services, but banks also quietly acknowledge that achieving the financial targets has been no easy feat. This has been partly due to the gradualist nature of China’s opening up process, but also a result of plain old competition.
One banker notes FX fee margins for renminbi pairs have been squeezed nearly into oblivion. Spot margins used to be around 10 to 20 basis points but had now come down to as low as 2bp to 5bp. This meant renminbi pairs now traded more like other liquid pairs in the market, but the squeeze on margins hurt nonetheless.
The feel-good consensus among interviewees is that growing the pie is key and that all banks would benefit from that. But the various players are still trying to come up with fresh ways to get a larger share of that pie.
Investing in RMB instruments
“The multinational banks, especially the top tier, are our major competitors for renminbi services,” says BoCHK’s Yang. “Most central banks use multinational banks as agents to invest in US treasuries or government bonds in Europe. However, for renminbi business, collaborating with BOC Group will bring them benefits, we have our own advantages.”
One example was the fact that the balance sheets of Chinese banks have more breadth and depth than any of the foreign banks could hope to achieve in the onshore market.
“When central banks need certain [renminbi] investment instruments that foreign banks cannot provide, they can often find that product available at the BOC Group,” says Yang.
In that respect, foreign banks are aware of the increasing challenge posed by Chinese players, but do not accept that the renminbi play will become a domain reserved for mainland banks.
One way to achieve that result was simplifying the link between the bank’s global service offering and the renminbi opportunity.
“We are investing in renminbi capabilities – in terms of systems and people – and internally we continue to deepen and embed renminbi as a DNA,” says StanChart’s Ling. “We realised that we cannot rely on a small team of experts to help our clients, so we have appointed global renminbi champions so they can all bring up the renminbi dialogue and advise clients confidently and meaningfully.”
Citi’s Patil says its model of supporting clients to do business worldwide will not change just to accommodate China’s renminbi ambitions, but adds that the country’s own trajectory fits increasingly well with that approach.
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“Look at the Fortune 500 companies – these are firms that operate in 50 to 80 different markets and they require standardization across the board,” Patil says. “We have 70% penetration in this segment and continue to add China and renminbi into the mix for their global operations. It’s an 80/20 game, where a few centres dominate a larger share of the activity. We have successfully established renminbi capabilities in all these centres from Dubai to Tokyo to Sydney. That way, clients focused on renminbi solutions have access to a platform that is consistent and, more importantly, we help them complete the last mile loop in every market.”
As for HSBC, it is key for the senior management to be fully on board with the renminbi strategy if the bank is to make further headway.
“We have a clear strategy from the group, top down,” says Ho. “That strategy is not about just the currency, it is about China as a whole. For us, the renminbi is a strategic priority, which makes us continue to invest in advisory and product proposition.”