Why China’s central bank stopped buying bonds

BEIJING — China’s central bank halted its purchases of government bonds on Friday in an attempt to slow one-way bond trading that is putting unwanted downward pressure on the yuan, analysts said.

China’s 10-year bond yield fell to a record low this month, while the Chinese currency traded in Hong Kong on Wednesday hit its lowest level against the US dollar in more than a year.

The People’s Bank of China is “trying to cool the market by suspending government bond purchases,” said Larry Hu, Macquarie’s chief China economist.

The decision “suggests that the PBOC is concerned about the recent rapid decline in bond yields, as it will increase CNY depreciation pressure now and SVB-style financial risk in the future,” Hu said, referring to the 2023 bankruptcy of a major US bank. largely blamed on changes in capital allocation due to the Federal Reserve’s aggressive rate hikes.

The NBK was announced before the market opened on Friday by stopping the purchase of government bonds.

The NBK bond purchase program started only last year. NBC Governor Pan Gongsheng said in a high-profile speech in June that the central bank would gradually add the buying and selling of government bonds in the secondary market to the monetary policy toolbox.

“The PBC may be trying to signal to all market participants that rates have fallen too low and too fast,” said Peter Alexander, founder of Shanghai-based consulting firm Z-Ben Advisors. “Their departure should lead to higher rates, at least in the short term.”

“The immediate effect was a slight increase in profitability. However, we expect this impact to be relatively short-lived if the NBK will only pause and not defend a specific target yield as it did last year; factors driving down bond yields, such as weak market confidence leading to high demand for safe sources of income, remain in place,” said Lin Song, chief economist at LNG.

Limiting stimulus

China is also dealing with sluggish economic growth at home. The country increased rate cuts and other support in late September after the US Fed moved to easier monetary policy.

Falling bond yields have reduced the extent to which the PBOC can cut interest rates further if needed to further stimulate the economy, said Zong Ke, portfolio manager at Shanghai-based asset manager Wequant.

He said the PBOC’s sudden halt was also meant to warn investors against speculatively engaging in bond rallies, which would exacerbate falling yields.

The NBK explained its decision by the bond shortage and said it would resume purchases if the balance of demand and supply changes.

Capital outflow

Zhiwei Zhang, president and chief economist at Pinpoint Asset Management, noted that the gap between Chinese and US government bond yields has widened, putting pressure on the yuan.

Compared to the US Treasury’s 10-year bond yield of 4.68%, China’s 10-year government bond yield is around 1.64%. This gap is even wider than it was in August, when concerns about falling Chinese yields have intensified.

A stronger dollar and higher yields on U.S. Treasuries make U.S.-denominated assets relatively more attractive to international investors — theoretically fueling capital outflows. Dollars rose amid expectations of continued US economic stability.

“The unusually strong demand for bonds is also likely partly driven by rising expectations of a big stimulus in 2025 to combat weak consumption and combat deflationary pressures,” said Brian Ticanco, an analyst at Stansberry Research.

“Unfortunately, the suspension of bond purchases will reduce pricing transparency in the domestic bond market, making it a bit more difficult for market participants to execute orders,” he said.

China’s 10-year government bond yield was little changed as of Friday afternoon after the PBOC’s announcement. Mainland and Hong Kong stocks traded slightly lower.

Support the yuan

China has also recently stepped up efforts to support the yuan by issuing promissory notes in the Hong Kong market. The PBOC will auction 60 billion yuan in Hong Kong on January 15. This was announced by the Hong Kong Monetary Authority on Thursday.

Along with the suspension of bond purchases on Friday, the PBOC is trying to use a set of tools to signal the yuan’s stability and support a gradual decline in yields, said Zong Liang, the Bank of China’s chief research officer.

The Chinese yuan, traded in Hong Kong on Friday, strengthened slightly.

Haizhong Chang, executive director of Fitch Bohua’s corporate division, expects the PBOC’s move to help return long-term bond yields “to a reasonable level and also help stabilize the yuan’s exchange rate.”

— CNBC’s Annick Bao and Ying Shan Li contributed to this report.