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ByRachel Ziemba

These bonds are the last major tranche of the announced 1.5 trillion RMB ($200 billion) long term bonds to fund the Chinese Investment Corporation (CIC). So the CIC will probably receive the total $200 billion in reserves from the central bank by year end if it hasn’t already.

These bonds seem similar in structure to the 600b RMB 10-year bonds issued in August. Since the Central bank can not directly buy bonds from the ministry of finance, the Agricultural bank of China serves as an intermediary.

In addition to these 1.3T issued, another 200b RMB in bonds has or will be issued directly to the public. These were divided into two groups of around 30b RMB each. The September bond issues were oversubscribed with slightly more bonds being offered than originally planned. The issue dates, interest rates and terms are summarized below and in clickable form at the end of the post.

UPDATE (Dec 14 2007): China sold 26.3b RMB in 10-year bonds (4.41% interest) meaning that all such bonds for 2007 have been sold. – this is an even lower interest rate than the similar bonds issued in November. USD equivalents of the different issues were added assuming that the RMB proceeds were converted into dollars on the date of issue. This however might not be a correct assumption.

Note: USD equivalents use USD/CNY exchange rate from date of bond issue.

The interest payments on all these bonds are below those of comparable bonds- and current inflation. The main (only) audience for these bonds is thought to be the commercial banks who are already the major purchasers of the frequently issued sterilization bills and longer term bonds.

Some other sovereign wealth funds are financed by debt. Brazil is considering issue local currency debt to buy dollars rather than using its existing reserves though. Given Brazil’s high interest rates, the cost of this capital could be quite high, implying the need to seek very high returns. Malaysian bonds backing Khazanah assets are dollar denominated. Details on the liability structure of GIC, Singapore’s portfolio investment arm, are not disclosed nor are many details available about institutional arrangements funding the Korean Investment Company (KIC).

Oil funds receive direct transfers from the state oil companies or from the budget. Norway’s Fund, for example, receives the entire state interest in petroleum with resources (up to 4% of the funds assets in Norway’s case) can be then withdrawn to pay for current spending. Some however have used debt to finance official investment holdings especially when oil prices were weaker. Others, Temasek and the smaller funds of the gulf, borrow to finance purchases – it is assumed that such debt is in foreign not local currency though. Also, in most cases these bonds are responsive to market rates.

CIC’s financial obligations no doubt influence its asset allocation and strategy. A real return would require offsetting the costs of its liabilities including interest payments and likely currency appreciation. Its general manager Lou Jiwei recently said that it must earn 300m yuan ($40m a day) to meet its 4.3-4.6% annual interest payments.

Although the use of long-term (10-15 yrs) are consistent with CIC’s long-term horizon, it does have a currency mismatch. CIC’s assets are in foreign currency and its liabilities are in local currency, one which is likely to appreciate over the 10 years. It may thus have even higher assumed return targets. However, at present the key may be to outperform SAFE’s portfolio of primarily conservative bonds.

Two thirds of CIC’s initial capital ($200 billion) is already spoken for – 1/3 of funds or $67 billion was spent to compensate the central bank for its holdings in Central Huijin (state holdings company) and an additional $67-70 billion is earmarked to recapitalize remaining policy banks including the Agricultural Bank of China. The remaining third will be invested abroad but the investment framework and asset allocation is reportedly still under consideration.

Given political pressures from many interest groups over how the assets might be deployed, pressure to get good returns is high. CIC officials have suggested that –despite a pre-emptive and splashy investment in Blackstone and subsequent loss – the CIC will primarily be a portfolio investment rather than taking strategic stakes in companies. But its most recent disclosed purchase was a pre-IPO stake in China railway. Lou Jiwei noted CIC will avoid stakes in foreign telecoms, energy companies and other strategic and political sectors. As such it may be learning both from the experience of Chinese SOEs and Temasek’s latest woes with some of its large stakes in South East Asia and fearing asset protectionism.

CIC funding terms are important for several other reasons:

The CIC may become an increasingly important vehicle for managing China’s foreign assets –changing the asset structure of Chinese foreign asset holdings. Already (as Morgan Stanley’s Stephen Jen and Charles St-Arnaud noted) China’s reserve growth may no longer be the best indicator of intervention in the foreign exchange markets. Transfers to CIC, more QDII outflows, more fx holdings by state banks may collectively reduce the share of assets held by SAFE, though on both a stock and flow basis, SAFE still dominates. But this may change depending on the track record of these otherinstitutions

As yet transfers to CIC may not be a major force in pace of reserve growth – actual net transfers from reserves were thought to be only $13 billion in Q3. the bulk of funds went to pay for the assets of Central Huijin which were already off the central bank balance sheet. But the CIC transfers might be more significant in Q4, especially in the months of November and December, depending on the link between bond issuance and CIC capital transfers.

Yesterday the city of Shanghai announced a $1 billion investment fund. This is tiny in comparison to China’s reserves but others might follow. The pension fund
s are also increasing foreign holdings. At present, government-led outflows (including those of Chinese banks) of this sort may be more significant than those from private actors.

It was assumed that these CIC funding bonds would influence China’s domestic bond yield curve which has been dominated on the short-duration end. In fact such development was a stated government policy objective. But these special bonds have interest rates lower below the prevailing rates for long-term bonds (and significantly lower than the 5 year bonds sold to retail investors by the PBoC) – and below recent inflation. So while the state banks may be convinced to purchase them, cutting into their profits, they are unlikely to be able to resell them to retail investors. Brad Setser has a lot on these cross-governmental subsidies as well as on developing CIC strategy.

This funding procedure – and pressure on the state banks (or rather transfer between government entities) might continue in the future as CIC is expected to receive significant funds this year. Chinese policy makers are clearly worried about reserves management. China’s trade surplus are likely to be high in 2008 and private outflows are unlikely pick up very quickly– making net assets to be held by SAFE, CIC and the state banks very large – perhaps $4-500 billion in 2008.

Investment flows like QDII and those for retail investors may increase further. Outward FDI is rising also – but more slowly. for now SAFE, CIC and the state banks are the main actors managing such assets. The liabilities of these entities and their asset allocation will have a significant effect on Chinese demand for different asset classes. The key question – will CIC continue to be largely domestically focused, with most capital being allocated to domestic institutions either for domestic operations or their own foreign investment?

Issue date

Amount issued (RMB b)


average coupon

sold to





central bank (ADB intermediary)
















Subtotal (Sep)

















Subtotal (Nov/Dec)






central bank (ADB intermediary)

Total (est)

1549.58 ($200)