What are Dim Sum Bonds? (also called Panda Bonds)
Dim Sum bonds, also known as Panda Bonds, are bonds that are issued outside of China (typically in Hong Kong or London) that are denominated in Chinese currency (called renminbi or yuan). The communist Chinese government tightly control its own bond market and does not allow foreigners to directly invest. By issuing bonds outside of China, foreign investors can invest in the debt of Chinese companies in Chinese currency. Chinese companies like property developers and banks have issued dim sum bonds. Many investors don’t trust the integrity of Chinese companies’ balance sheets and income statements, but even they can potentially invest in dim sum bonds of American companies like McDonald’s or Caterpillar that do business in China, and even some other countries like Hungary have issued dim sum bonds.
The Market for Dim Sum Bonds
The market for dim sum bonds in 2016 dried up; only a handful of companies issued renminbi-denominated debt compared to 73 in 2014. The biggest reason why is that the Chinese government controls its own currency. In August 2015, they decided to devalue the currency by almost 2% in one day, and then continued to depreciate over 5% over the course of a year. If you are an American or a European holding debt which is denominated in Chinese currency, a depreciating yuan means less you are receiving payments that are not worth as much as before. Its like owning a rental property where the tenant has a lease agreement to pay you $1000 per month, but something out of your control causes it to drop to $950. For someone who might have had millions tied up in dim sum bonds, the difference can be a big deal.
If the Yuan Appreciates, The Value of Dim Sum Bonds Appreciates
The reason that some think dim sum bonds will flourish under a Trump administration is that they have been accused of intentionally devaluing their currency to boost exporting their products to the US and other countries. Trump does not like it and has made this clear in tweets over the years:
Treasury has refused to name China a currency manipulator even though the yuan “remains significantly undervalued” http://t.co/rHHCXhEQ
— Donald J. Trump (@realDonaldTrump) November 28, 2012
Did China ask us if it was OK to devalue their currency (making it hard for our companies to compete), heavily tax our products going into..
— Donald J. Trump (@realDonaldTrump) December 4, 2016
If China’s currency is undervalued and the value of the yuan surges, then owning debt valued in yuan (all things being equal) could bring a windfall. Using the previous rental property analogy, a 20% increase in the value of the yuan would lead to being paid $1200 instead of $1000 a month in rent. Obviously there could be negative side effects if the companies themselves weaken because they have a harder time selling their products or other issues arise (it’s great having your place rented at $1200 per month instead of $1000, but it won’t do you any good if the tenant loses his job and can’t pay anything).
But is the Yuan Still Devalued?
A number of economists, however, don’t feel like the yuan is undervalued any more. It was definitely undervalued in the past, but maybe not anymore. In 2015, the IMF said the yuan was no longer undervalued. There is no doubt that the Chinese government manipulates and controls its currency rather than allow it to freely float, but some have even said that at this point it may be overvalued. Even the talk about possible tariffs and potentially labeling China as a currency manipulator has largely caused the yuan to depreciate at this point. The trade surplus between China and other countries has gone down over recent years and its low cost manufacturing has been challenged by other emerging countries.
Buying dim sum bonds as a play on Trump’s policies is very speculative and doesn’t consider a multitude of economic and political factors. Fortunes have been won and lost betting on foreign currency, and with all things China, buyer beware.
