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【Introduction】 Chief analysts of three major securities firms: Multiple factors have led to a deep adjustment in the bond market, and the short-term trend may be volatile

China Fund News reporter Cao Wenjing Maureen

Since August, the bond market has experienced wide fluctuations, with the 10-year and 30-year Treasury bond yields falling to 2.10% and 2.33% respectively, and continued to fluctuate and adjust for several trading days. Affected by this, fixed-income wealth management products with bond assets as the main allocation have also entered the net value adjustment stage.

China Fund News reporters interviewed Zhang Jieqiang, deputy director of Huatai Securities Research Institute and chief fixed income analyst, Jin Qianjing, chief bond analyst of Shenwan Hongyuan Research, and Xu Liang, chief fixed income analyst of Huafu Securities, on the causes, risk factors and future trends of this round of bond bull market. They generally believe that if the domestic economy stabilizes and recovers significantly, the trend of the bond market may reverse. Overall, it is expected that the bond market will be volatile and weak in the second half of 2024.

Zhang Jieqiang, Deputy Director of Huatai Securities Research Institute and Chief of Fixed Income: In the short term, the central bank's warning of risks, the issuance rhythm of special bonds, and the experience of wealth management and investment may increase short-term volatility in the bond market. In the medium term, there are natural differences in the reliance of the old and new economies on debt financing, and the bond market trend still has inertia.

Jin Qianjing, chief bond analyst at Shenwan Hongyuan Research: The bond market is expected to be volatile and weak in the second half of 2024. In this round, the duration of bonds issued by asset management institutions is generally longer, and the risk appetite on the liability side is also weaker. The duration risk and redemption risk of the bond market need to be paid special attention.

Xu Liang, Chief Fixed Income Officer of Huafu Securities: If bond interest rates continue to decline as quickly as before, and if the economy recovers significantly in the future, interest rates may rise rapidly, similar to previous financial redemptions. At this time, most investment portfolios will face a large drawdown in net value, and extreme declines may occur easily.

Multiple factors such as "asset shortage" resonate

Boosting the bond market in the first half of the year

China Fund News reporter: How do you view the "bond bull" market with continued downward trend in treasury bond yields?

Zhang Jiqiang:We believe that the current "bond bull" can be explained by the three main lines of "fundamentals + institutional behavior + monetary policy". First, from the demand side, the impact of the economic cycle on government, resident and corporate spending has been strengthened, and the prosperity of the service and construction industries has continued to decline, especially the risk of decline in external demand has increased due to the US election and the expectation of US economic recession; from the supply side, the manufacturing production activities that were not weak in the first half of the year began to be pulled by insufficient demand, and it was difficult for companies to form active inventory replenishment momentum; from the price side, both the front-end and back-end prices are facing repeated fluctuations, and re-inflation is still difficult.

From a long-term perspective, the biggest background facing the bond market is the transformation of China's economic drivers from old to new. The financing demand of the old economy, such as real estate, has weakened, and the new economy is still in the process of cultivation. In the short and medium term, the fundamentals show a trend of increasing volume and falling prices. The Political Bureau meeting in July stated that the reform, development and stability in the second half of the year "has a heavy task" and still needs to "work harder" to achieve the annual economic development goals.

Secondly, the "asset shortage" has contributed to the downward trend in yields. In April, the deposit self-regulatory mechanism issued a proposal to prohibit manual interest supplements, which made it impossible for major banks to deliver on their original promises. Coupled with the unexpected interest rate cut by the central bank in July, deposits moved to non-bank institutions. Deposit transfers and wealth management subscriptions have further boosted the scale of fixed-income funds.

In addition, due to insufficient credit demand, small and medium-sized banks are unable to compete with large banks and can only focus on financial market business, which also increases the allocation of bonds. Insurance institutions have also increased bond investment under the pressure of premium expansion and maturity of existing assets. At the same time, corporate financing demand is weak, the pace of local debt issuance is slow, and non-bank institutions such as wealth management and bond funds are still under great pressure.

Jin Qianjing:The "bond bull" trend in which treasury yields have continued to decline since 2024 is mainly driven by two factors.

First, with the transformation and upgrading of my country's economy and high-quality development, the relationship between my country's credit growth and economic growth has weakened, and the credit growth rate has declined to a certain extent. In July 2024, the policy interest rate was lowered accordingly, and the fund interest rate has also shown a unilateral downward trend since the beginning of the year, which is the core factor driving the continued decline in treasury bond yields; second, the deposit interest rate continued to decline, and the "manual interest supplement" was banned. The cost-effectiveness of bond assets compared to deposit assets has increased, and deposits have been transferred from banks to wealth management, funds and other asset management institutions. The expansion of the liability side has driven asset management institutions to generally increase their allocation of bond assets.

In addition, banks and insurance companies are also strong in their bond allocation, and strong allocation power is also a key factor driving this round of "bond bull" market.

Beware of the "debt bull"

Interest rate spread and duration mismatch risk

China Fund News reporter: What are the systemic risks that the bond bull market brings to banks and insurance companies?

Zhang Jiqiang:From the perspective of banks, the "bull" market in which treasury yields continue to decline will create risks in bank net interest margin and duration mismatch.

On the one hand, in the context of weak real financing demand, large banks have increased loan supply to support the real economy, even at the cost of launching a "price war" to provide loans at low cost, with some loan interest rates even lower than the government bonds of the same period; on the other hand, in order to compete for deposit resources, banks have raised deposit interest rates in disguise, bypassing the restrictions of the deposit self-discipline mechanism, and the resident sector has also increased its income by lengthening the deposit duration. As of the second quarter of 2024, the net interest margin of the banking industry has further declined to 1.54%, with the largest decline in the net interest margin of large banks, and the operating pressure of the banking industry has further increased.

The liability costs of small and medium-sized banks are not low either, and bond yields are generally difficult to cover the liability costs. Many institutions hope to increase their allocation of long-term interest rates by relying on capital gains. At the same time, the strong growth of loans by large banks and policy banks in the past two years has squeezed the business space of small and medium-sized banks to a certain extent, forcing them to increase their bond allocation. With the high liability costs and the continuous compression of interest rate spreads, the proportion of capital gains in the profits of small and medium-sized banks has increased significantly. Although the total bond investment growth rate of small and medium-sized banks is declining this year, it can be seen from the transaction data that its duration is not low. After all, under the pressure of higher liability costs, only the long-term game has the hope of winning. In this process, asset-liability matching may be weakened and the duration mismatch risk may be aggravated.

For the insurance industry, on the one hand, the insurance investment side faces multiple adverse effects such as falling bond yields, tightening of agreement deposits, insufficient supply of non-standard urban investment, and poor real estate market. The "asset shortage" has intensified, and the proportion of bond allocation has been passively raised. On the other hand, the cost of insurance liabilities has declined slowly, and traditional savings insurance has been sold more in recent years. Savings products have the characteristics of guaranteed principal and interest + high issuance costs, which are particularly popular with investors against the background of net value of wealth management and downward deposit interest rates. However, the interest rate decline on the insurance asset side is higher than that on the liability side, and the risk of interest rate spread loss has begun to accumulate.

Jin Qianjing:Banks and insurance companies are typical bond allocation institutions, which tend to allocate at high yield points and mainly use coupon strategies; therefore, during periods of rising yields and poor bond prices, the allocation power of banks and insurance companies will be significantly stronger.

For banks, the continued downward trend in bond yields and the decline in coupon rates will reduce the income on the bank's asset side and increase the risk of the bank's net interest margin; similarly for insurance, with the sharp decline in ultra-long-term treasury bond rates, the ultra-long-term treasury bond rates and the insurance's scheduled interest rates are also in an inverted pattern, which will also increase the risk of insurance spread losses.

Xu Liang:Systemic risks mainly come from rising interest rates and price adjustments. If the bond bull market is a slow bull market and the interest rate declines at a reasonable pace, then the probability of a rapid subsequent rise in interest rates is low, and the systemic risk is relatively small. However, if bond interest rates continue to decline as quickly as before, and if the economy recovers significantly in the future, then interest rates may rise rapidly, similar to the previous financial redemption. At this time, most investment portfolios will face a large drawdown in net value, and extreme declines are likely to occur.

Focus on economic fundamentals, institutional behavior, monetary policy, overseas and other factors

China Fund News: After a series of "combination punches", the bond market has recently experienced drastic fluctuations. Do you think the "bond bull market" has ended? What factors need to be paid attention to?

Zhang Jiqiang:The core that determines the medium- and long-term trends is still the macroeconomic trend. If the new and old driving forces are successfully transformed, the vitality of the real economy is enhanced, or fiscal policy is expanded significantly, coupled with feedback such as financial management redemption, the bond bull will truly be shaken.

Focus on four core variables: From a fundamental perspective, the characteristics of the economy's wave-like operation have not changed. Economic cycle variables such as fiscal efforts and micro-entity perceptions are crucial, and the policy effects and sustainability of stabilization still need to be observed.

From the perspective of institutional behavior, the key to when the asset shortage will end lies in the supply side, that is, when financing demand will pick up, which depends on the vitality of micro-entities, government leverage, economic growth structure, etc. Another idea is to leverage domestic demand through fiscal expansion, which will increase the supply of interest-bearing bonds in the process, and in the short term, the necessity, probability and feasibility are higher.

From the perspective of monetary policy, looking forward to the second half of the year, in terms of monetary policy, first, the general direction is still "precise and effective", and the actual situation is stable but slightly loose; second, structural tools>aggregate tools, especially in key areas such as real estate inventory reduction and technological innovation, there may still be incremental measures introduced; third, the window period for lowering the reserve requirement ratio (for example, a 0.25% reduction) focuses on the third quarter to supplement the liquidity gap and hedge government bond issuance.

Overseas, from the perspective of the interest rate differential between China and the United States or foreign exchange stability, external balance has previously posed a greater constraint on monetary policy, but this situation has reversed recently. The inverted interest rate differential between China and the United States has narrowed, the RMB has appreciated, and the exchange rate pressure has eased, which has opened up monetary policy space to a certain extent, which is slightly positive for the domestic bond market in the short term. The impact of the subsequent US election on risk appetite and external demand needs to be continuously monitored.

Jin Qianjing:As the domestic economy enters a stage of high-quality development, my country is gradually getting rid of the traditional growth model centered on real estate and infrastructure. In the medium and long term, it is still a consensus that the central risk-free interest rate will decline. However, the medium- and long-term decline in the central risk-free interest rate does not mean that bonds will always be in a bull market. There have been large-scale bond adjustments in the second half of 2020 and at the end of 2022.

From a short-term perspective, the bond market in the fourth quarter of 2024 is expected to be relatively bumpy, mainly based on three points: First, the steepest stage of the downward trend in credit growth has passed, and the probability of a rate cut in the fourth quarter of 2024 is low, which will constrain the interpretation of the bull market in bonds; second, from late August 2024, funds and short-end yields are expected to bottom out and rebound, which will also cause certain disturbances to the long end; third, the central bank's intervention in long-term bonds has entered the practical mode, especially starting from the institutional allocation end, which will weaken the allocation power on the bond demand side.

Xu Liang:Judging from the downward trend and rhythm of interest rates, the recent wave of interest rate declines has ended, and interest rates have fluctuated again in the short term, but the downward trend has not been broken. We need to pay attention to the economic fundamentals in the future. If the economy continues to stabilize and rebound significantly, the bond bull market may end, which needs to be observed.

The bond market may show a volatile and weak pattern in the second half of the year

China Fund News reporter: How do you think the bond market will perform in the short, medium and long term?

Zhang Jiqiang:The central bank warns of risks in the bond market from the perspective of financial security, in order to prevent the formation of unilateral expectations in the bond market and their continuous strengthening. Due to the existence of pro-cyclical financial factors and the interest rate spread caused by institutional scale orientation, it is necessary for the central bank to warn of risks and avoid similar incidents to Silicon Valley Bank. The rhythm of the bond market will be disturbed to a certain extent.

From the overall trend, short-term volatility is amplified and medium-term inertia still exists. The current interest rate level is already at a low level from a horizontal comparison and historical dimension. In the short term, the central bank's warning of risks, the issuance rhythm of special bonds, and the experience of wealth management and investment may increase short-term volatility in the bond market. In the medium term, during the transition period between old and new drivers, the macro economy is prone to show a trend of increasing volume and falling prices. There is a natural difference in the dependence of the old and new economies on debt financing. The bond market trend still has inertia, and the economy also needs the support of a low interest rate environment. Investors are advised to maintain a neutral duration, increase product selection, and avoid excessive credit sinking.

Jin Qianjing:The bond market is expected to be volatile and weak in the second half of 2024. From the supply side, bond supply is expected to increase in the second half of 2024, which will alleviate the pressure on institutions to allocate bond assets to a certain extent; from the demand side, the central bank has also been continuously regulating the bond investment behavior of banks and public offerings, which is expected to weaken the behavior of institutions excessively chasing long-term bonds to a certain extent.

Considering the relatively low probability of a rate cut in the fourth quarter of 2024, the current bond yields deviate greatly from the policy rate. The impact of the fourth quarter's capital market tightening and the implementation of the steady growth policy on the bond market cannot be underestimated. In addition, the duration of bonds issued by asset management institutions in this round is generally longer, and the risk appetite on the liability side is also weaker. The duration risk and redemption risk of the bond market also need to be paid attention to.

Xu Liang:In the future, from the perspective of short-term interest rates, if the issuance of subsequent government bonds continues to accelerate, the fluctuation of the capital market will cause the relatively low short-term interest rates to change. In addition, with the decline in foreign exchange swap points, the cost-effectiveness of foreign funds holding domestic short-term bonds is declining, and their preference and purchase of domestic short-term bonds are expected to decline marginally, and the overall short-term varieties may also fluctuate.

As for long-term interest rates, the impetus for continued upward movement of interest rates is not strong when fundamentals and policies remain stable. From the perspective of risk prevention, a sharp rise in bond interest rates is not an appropriate scenario. It is expected that after the downward momentum of long-term bond interest rates fades, bank bond selling behavior may weaken, and long-term bonds will also fluctuate in the future. The probability of a rapid decline in short-term interest rates is also decreasing. The probability that the 30-year interest rate may fluctuate around 2.3%-2.45% in the future is relatively high.

Editor: Captain

Review: Muyu

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