RMB Funding Becoming Attractive to MNCs in China
Howie He
Partner
Vermilion Partners
When the Zero-COVID policy ended and travel restrictions were lifted in early January this year, a strong economic recovery was anticipated. This was supported by a burst of activity in certain sectors in the first quarter. The tourism industry saw soaring demand, with travellers pouring into tourist hotspots which were not capable of accommodating such a high number of visitors. Real estate developers began revoking the discounts and favourable policies previously introduced on new housing sales.
However, the economic dynamics and investor confidence soon changed. Strong growth in the first quarter appears to have resulted from accumulated deferred demand, rather than a solid recovery in consumption power. Both household and government spending was apparently impacted by their weakened financial status, and appears to have become more conservative.
CPI and PPI recorded three consecutive months of decline in the second quarter, driving CPI and PPI y-o-y growth down to 0% and -5.4%, respectively. The recently published CPI in August rebounded slightly by 0.1% y-o-y, with PPI growth remaining negative at -3.0%. The official purchasing managers' index for China's manufacturing sector stood at 49.7 in August, the fifth month after the first quarter below 50, the equilibrium point between economic contraction and growth.
"As a result of the differences in inflation level and monetary policies between China and other countries, RMB funding is gaining a cost advantage over funding denominated in other currencies, making it more appealing to borrowers. "
Driven by the low inflation and lower-than-expected half year GDP growth, prevailing interest rates have been on a downward trajectory, in notable contrast to the elevated interest rates in many economies. One-year Shibor (Shanghai Interbank Offered Rate) dropped to 2.34% in July from 2.58% in January, with the one-year Chinabond government securities yield declining to 1.81% from 2.15% over the same period.
As a result of the differences in inflation level and monetary policies between China and other countries, RMB funding is gaining a cost advantage over funding denominated in other currencies, making it more appealing to borrowers. The 3-4% differential in funding cost is leading to a re-balancing of funding sources, with a natural shift toward more RMB funding. As an illustration, the issued RMB-denominated panda bonds have amounted to RMB111 billion by the end of August this year, which exceeded the full-year total issuance in any single year during 2017 to 2022. Over the same period, the average coupon rate declined substantially from approximately 4.7% in 2017 to 2.7% in the first eight months this year.
"MNCs that are sizeable enough may be able to take advantage of their business in China to borrow more in RMB and improve their global financing structure substantially. "
Typically, many MNCs have relied on equity and shareholder loans to finance their business. RMB debt financing can reduce required equity contributions and increase overall investment. Tesla’s plant in Shanghai was a good example, even though RMB funding at the time was not as cost competitive as today. RMB funding could potentially play an important role for MNCs considering investment initiatives or M&A transactions in China.
MNCs that are sizeable enough may be able to take advantage of their business in China to borrow more in RMB and improve their global financing structure substantially. Through local funding, MNCs can match assets and liabilities, with cash flows generated from the assets servicing the debt obligations without substantial currency exposure. As compared to the de-leveraging trend underway in household mortgage loans, MNCs in China are in the position to increase their RMB-denominated debt to optimize their RMB v.s. other currency funding mix.
On the other side of the equation, RMB funding providers, the Chinese banks, are facing greater pressure from the banking regulators, who are demanding the banks to cut interest rates, and also from existing borrowers who are repaying mortgage loans in advance. All the major banks have made announcements to reduce the interests on existing mortgage loans, following the notice promulgated by the People’s Bank of China and the China Banking and Insurance Regulatory Commission on 31 August. The banks now have to seek new opportunities to fill the gap - the increasing funding needs from MNCs may to some extent help the banks achieve their lending targets.
