China Bond Connect regulation: what is it?
Bond Connect complements QFII (Qualified Foreign Institutional Investor), RQFII (RMB Qualified Foreign Institutional Investor), and CIBM Direct Access schemes and is a step further to opening up onshore capital markets to overseas investors. Unlike other schemes, there is no quota requirement or need for investors to identify the intended investment amount.
In late 2017, northbound trading went live, allowing overseas investors to invest directly into the CIBM market through Hong Kong’s market infrastructure. Southbound trading is still to be implemented.
Bond Connect scope
The scope of eligible investors under Bond Connect is the same as the CIBM Direct scheme. Through the scheme, the People’s Bank of China (PBOC) is encouraging into the market mid- to long-term investors such as commercial banks, asset managers, insurers, securities houses, pension funds, charitable funds and other long-term investors.
Under the Bond Connect scheme, each institution is required to submit an application to the Chinese authorities via the Bond Connect Company Limited (BCCL), which is a joint venture created by the Hong Kong Stock Exchange and the China Foreign Exchange Trading System (CFETS). The PBOC is expected to process and grant approval within 10 calendar days to eligible investors. Once approved, CFETS assigns a unique trading identifier to the investor to begin investing.
Offshore investors must have an appointed local custodian, who is a “Bond Connect Linkage Participant” in the Hong Kong Central securities depository (CSD) which is called the Central Monetary Unit or CMU. This can be via a direct appointment or through the investor’s appointed global custodian. BNP Paribas Securities Services Hong Kong is an eligible Bond Connect Linkage Participant and can be appointed in this way. The Bond Connect Linkage Participant will assist in opening a segregated CMU sub-account per investor. Unlike the CIBM Direct scheme, investors are not required to open segregated onshore securities account or cash accounts.
Offshore investors are able to use offshore trading platforms such as TradeWeb (currently active) and Bloomberg (in the final stages of activation). As of the end of 2017, offshore investors are allowed to trade with only the 24 eligible onshore participating dealers (including BNP Paribas). Regulators are expected to open access further to allow trading with both onshore and offshore market participants.
Once the trade is matched, CFETS sends the confirmation ticket for settlement to the China Central Depository and Clearing (CCDC) and the Shanghai Clearing House (SCH). The settlement flow is fully managed through the investor’s Bond Connect Linkage Participant along with CMU, who holds a nominee account with the two onshore CSDs, namely the CCDC and SCH. The settlement cycle can be T, T+1 or T+2; however, most investors opt for T+2 to ensure the cross-border flow of securities and cash, and T+2 provides extra time for funding. Investors can use CNH (offshore renminbi) or foreign currencies for funding. The regulator has also opened the gate for CNO (onshore renminbi) conversion and hedging; however, forex transactions can only be done via the Bond Connect Linkage Participant and should always be directly linked to the Bond Connect activity.
BNP Paribas Securities Services’ view
The Bond Connect scheme offers greater access to onshore Chinese bonds, and greater safeguards and cost effectiveness for overseas investors than previous schemes. Planned upgrades will make it the most comprehensive China access programme.
At the market level, regulators and the market operators are expected to improve the Bond Connect operating model and introduce the ability to support delivery versus payment (DVP) settlement. This is a major concern for investors and offshore regulators with the current model that sees investors having to inject the cash or deliver the bonds to the eligible onshore participating dealers in the bond purchase or sale for transactions settling in CCDC. In early 2018 we are expecting CCDC to align their settlement model with SCH, where a true DVP can already be supported. We understand that the model has been proposed and is awaiting final validation by the People’s Bank of China.
3 July 2017 - Launch of Bond Connect (northbound trading)
Early 2018 - CCDC to support real DVP settlement
CMU is expected to publish Bond Connect FAQ for offshore investors
Download the regulatory memo
Bond Connect: A new frontier in China market access
Market Compass for China
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