The retreat of 10-year US Treasury yields from 16-year highs could prove to be a blessing for Chinese stocks as it may spur fund flows back into the US$9.6 trillion onshore market, an occurrence that has taken place twice this decade.
The yield on the 10-year Treasury has dropped by about 40 basis points since touching 5 per cent last month, a level not seen since July 2007, on expectations the Federal Reserve is almost done with its most aggressive policy tightening in four decades. The sign bodes well for Chinese stocks, according to brokerages including Shenwan Hongyuan Group, as traders shift out of high-yielding US assets and seek other attractive investments globally following a peak in Treasury yields.
The benchmark CSI 300 Index of yuan-traded stocks jumped by at least 70 per cent in the two downward cycles of Treasury yields over the past decade, according to Bloomberg data.
“The swing in the US Treasury yields is now the key to Chinese stocks,” said Fu Jingtao, a strategist at Shenwan Hongyuan in Shanghai. “The bets on the end of the Fed’s rate increase is gaining momentum. When that happens, the Treasury yield will drop and stocks will rebound.”
Unrelenting foreign selling has largely offset Beijing’s efforts to bolster the flagging stock market. Measures including a cut in the stamp duty and direct state buying of banking stocks and exchange-traded funds have done little to stabilise the market, with the CSI 300 Index falling almost 7 per cent this year, ranking it among the worst performers in Asia.
With the Treasury yield now showing signs of peaking, foreign investors seem to be returning to Chinese stocks. They have poured about 4.7 billion yuan into onshore shares so far this month, according to Hong Kong stock exchange data.
The CSI 300 Index surged 70 per cent in the two years up to February 2021 after the 10-year Treasury yield dropped by 110 basis points to a low of 2.1 per cent from November 2018 to August 2020. On another occasion, the gauge jumped 150 per cent in 15 months up to June 2015, spurred by a decline of 140 basis points in the debt yield to around 1.6 per cent in 2014.
The Fed’s pause has fanned speculation that a cut in the interest rate is on the cards next year, leaving further downside for the Treasury yield.
“The November meeting has led to a strong view, priced into the market, that rates have peaked and that the Fed will cut through the course of 2024,” said Gary Dugan, chief investment officer at Dalma Capital in Dubai.
Still, lower Treasury yields may not fully guarantee fund inflows into Chinese stocks, whose performance also depends on the development of geopolitical risks, according to some investors including Jingxi Investment Management.
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“While the decline in the US Treasury yield is positive for stocks, whether overseas investors will be back hinges more on how much China and the US can mend their relationship,” said Wang Zheng, chief investment officer at the Shanghai-based fund manager. “That’s a critical factor for risk appetite.”
For Hong Hao, chief economist at Grow Investment Group, the record yield gap between interest rates in China and the US, as a result of the policy divergence, is about to narrow, a move that will trigger inflows to underpin both the yuan and Chinese stocks.
“The historical weakness of the Chinese yuan should trough, while the yield gap should narrow,” he said. “Such normalisation should alleviate the pressure on fund flows and Chinese assets, and spur intermittent market rebounds and rallies.”