Download - Chinese Bond Market Challenges Sergey N. Smirnov State University Higher School of Economics Moscow.

Chinese Bond Market Challenges

Sergey N. Smirnov

State University Higher School of Economics Moscow

EFFAS-EBC meeting, June 2009 2

Contents:

1 Chinese Bonds Market Overview

3 Applying EFFAS-EBC methodology to Chinese Bonds Market

2 Zero-coupon yield curve used by CGSDTC


Market scale• About 3000 bonds with total worth 34 704,6

billion RMB issued since 1998

• Currently traded: 1385 bonds with outstanding amount 16 600 billion RMB (rmb usd rate:

1 Chinese yuan = 0.15 U.S. Dollars)

• About 1000 transactions a day with average daily turnaround about 150 billion RMB

• Bonds are traded at Shanghai and Shenzhen exchanges, OTC and inter-bank markets


Chinese Bonds Market Structure

Source: ChinaBond


Market Infrastructure

• The primary market of bond issuance is largely completed through syndication.

• Governmental bonds were mostly underwritten by the four stated-owned banks while other commercial banks and securities companies play active role in forming syndicate to market financial and corporate bonds.

• Most of bonds are held by banks, insurance companies, securities firms, and corporations. Mutual funds hold a relatively small fraction of the total outstanding bonds.


Instruments Present• Treasure Bonds (Ministry of Finance). All terms. Bullet redemption. Majority has coupons.

• Central Bank Bills (Peoples Bank of China). Very short and short term. Majority are discounted.

• Government owned BanksAll terms. Majority has coupons. Some have options.

• Corporate and Commercial Banks Bonds

• Others


Outstanding Amount

0

20000

40000

60000

80000

100000

120000

140000

160000

180000

10

0 m

illio

n R

MB

Treasure Bond Central Bank Bills Government owned banks Bonds Corporate Bonds Others


Current position:





History of Zero-Coupon Yield Curves Development in China

• Research (1999-2001). With aid of Reuters was developed first yield curve for Treasure

bonds

• Prototypes (2002-2005). Chinese development of 4 yield curves for Treasure bonds using

information from different markets

• Exploitation and Modification (2006 - Present).

New methods are developed and yield curves are constructed for different types of bonds.


CGSDTC Methodology

• Data Filtering

• Expert and Historical Estimates

• Hermite Polynomial Fitting


Data Sources

• Deals Prices from Interbank, OTC and Shanghai Exchange markets

• Bid-Ask Quotes from Interbank market

• Market Participants estimates


Data Filtering

Visual comparison with historical yield curves, not historical market data


Expert and Historical Estimates

If too many entries are filtered out the data is augmented with expert estimates or historical

values


Hermite Polynomial Fitting

• Fix bonds maturity dates as grid nodes

• Fit Hermite polynomial such that:

a) Bond pricing equation holds

b) Yield expert estimates are recovered


Controversial results


Current position:





Available data

Chinabond has kindly supplied us with the

following data:

– Daily trading results.

– Daily OTC Bid/Ask quotes from 8 banks.


Quotes co-Movement


Bid-Ask Spread co-Movement


Quotes: peculiarities

• Data contains errors: Bid > Ask

• Data is inconsistent: Bids>Askk for several days in a row

• Quoted YTM corresponds to smth slightly less than the Ask quote

• Bid-Ask spread is far too wide

• 4 banks quote all bonds, 4 banks quote only a subset.


“Best” inter-bank Bid-Ask spreads


Quotes: Yield Curves


Quotes: Forward Rates


Quotes: (Bid+Ask)/2


Quotes: Summary

• Different banks use different quoting schemes: the way quotes move differs a lot

• Either quotes are non-committing or banks are isolated from each other: systematic arbitrage is present

• Nobody uses spot forward rates

• Bonds are likely to be quoted in groups by time to maturity (duration is not used)


Prices: peculiarities

• Highly illiquid market

• Prices may lie well outside Bid/Ask quotes

• Similar bonds are frequently priced unlike each other

• No filtering helps since “unusual” prices tend to repeat in time


Number of Deals


Turnover


Price vs. Bid-Ask


Prices: Yield curves


More smoothing


High-Coupon Effect?

• Hypothesis: Chinese traders like high coupons (bonds with high coupons are valued higher).

• Testing: corr(coupon size, spread) = 10%


Visual Coupons


Prices: Summary

• Data from different sources are likely to be mixed

• Yield curves should be constructed from quotes

• Extremely illiquid market, price information is unreliable