Waiting for the Great Wall of Chinese Liquidity

There has been a great deal of excitement and press coverage about the supervisory cooperation agreement signed Monday between the China Banking Regulatory Commission and the Securities and Exchange Commission, which allows Chinese banks to conduct QDII investments for their clients in the US.

This is, I think, the fifth such agreement, following those in Hong Kong, the UK, Singapore, and Japan. Chinese funds have been able to invest in the US for several years now, but this agreement allows them to create and market investment products tied to US securities. There are 23 banks in China that have the license to make overseas investments for their clients under these rules.

According to Tuesday’s South China Morning Post, “The news will be welcomed by fund managers in New York waiting for the so-called ‘Great Wall of Chinese liquidity’ to hit US shores.” Several other newspaper accounts also referred to this great wall of liquidity that should wash into the US markets.

But I wouldn’t splash on the soap just yet. It might be a while before any serious money actually comes into the US. Even though plenty of Chinese have a fascination with things American, and investing in the US might seem like a great opportunity for them, these funds will still have to face a terrific headwind. They will probably need to earn anywhere from at least 12% to 14% just to match the returns their investors can get from leaving their money in local banks here in China, and the fiasco of recent QDII investments (see my March 26 entry) means that investors are likely to be cautious.

What’s more, I would urge any investor who was considering buying these newly-approved products to think very carefully before taking the plunge. If fund managers have to beat 12-14% just to break even, I would guess that there would a ferocious incentive on their part to gamble wildly.

That means some of them might make very high returns that are comparable or better than what Chinese could earn by leaving their money in bank deposits, but at the risk of some pretty ugly performances. After all, already one of only four mutual fund QDII’s recently went into liquidation, after just a few months of operation in which it lost over half the value of its assets under management, and all the others are seriously underwater. That suggests that prudence is not at the top of the list of qualities these fund managers seek to exhibit.

In the long run it is a good thing that Chinese capital markets are being liberalized, but by now I think most of us would have to agree that there will be no wall of money leaving China until there is a significant change on RMB expectations. In fact, I have a sneaking feeling that the wall of money will materialize precisely when the local authorities are trying to stave off hot money outflows. Still, with reserves at over $1.6 trillion and looking like they will easily approach or exceed $2 trillion by year end, I think it will be a long time before hot money outflows are a problem.

Comments

[rainman]

After the story of Balckstone and almost-become-a-story of BSC, China money is really scared, unlike the Middle East oil money and those-already-stuck-Eu... money, China fund managers do not want to jump in.

[Andrew Ling]

Where does the 12-14% interest rate on bank deposits come from? China's central bank has interest rates set at 6.84% so investors should be payed only about 4% not 12-14%.

[Andrew Ling]

Where did you get the 12-14% figure? China's central bank recently raised rates to 6.84%, meaning that individuals making deposits can expect to earn perhaps only 4%.

[M. Pettis]

It is 12-14% in US dollar terms (and probably higher) because there is an 8-12% expected currency appreciation. That means that if money invested in the US earns 12-14%, converted back into RMB it will just match a local bank deposiit. Better to bring money from the US and leave it in a Chinese bank, like I am doing.

[User 132047]

Won't they be interested in the China companies quoted in the US...they cannot buy these in China or HK. I am thinking the likes of COGO, CSR, FSIN etc?

[Itsjustal]

I agree with User 132047. Chinese companies listed for trading in U.S. markets offer an additional avenue of investment and liquidity for newly enfranchised Chinese investors. I would expect these Chinese companies, in general, to be impacted more by this change than their wholly American counterparts. By the way, I enjoy your blogs a great deal. I find them very useful.

[LJ]

Chinese investors have already lost lots of money in their QDII investments. IMO, by now, they should have learned a lesson.

[LJ]

It is not a good time to invest in stocks. The current stock bubble in the US is being fueled by the liquidity from carry trades and short sales of commodity contracts. The stock bubble will collapse if the US dollar is weakened against yen for whatever reasons.

[Andrew Ling]

Thanks for your response Michael that is a good point. Being a Chinese American I also considered investing in something Yuan denominated such as Chinese real estate but unfortunately they had already passed laws making it difficult for foreigners to invest. Part of the problem with holding Yuan though is it's illiquidity. That obviously isnt a problem if you're living in China and can spend the money there.

[James V]

Probably one of the reasons the Chinese Government allowed QDII mentioned above is so they could covertly use some of the USD they have and start building stakes in USA companies for political, economically reasons. Thats what I would do if I have 1.6 trillion usd of reserves that were depreciating.

In terms of mainland Chinese Fund Managers, having met a lot of these people. I would think they would jump on anything that could earn them money. I think it would be quite easy for the fund managers to sell further gambling opportunity (I mean funds) to the less savvy Chinese public.

Andrew, If you are looking to invest more than 500 000 USD I can help you to invest it in property or other fixed assets or even actual compnay investment. There are still ways to invest USD here that I know of.


Keep Post coming Micheal, I am your biggest fan.
Corny but true...

[James V]

Probably one of the reasons the Chinese Government allowed QDII mentioned above is so they could covertly use some of the USD they have and start building stakes in USA companies for political, economically reasons. Thats what I would do if I have 1.6 trillion usd of reserves that were depreciating.

In terms of mainland Chinese Fund Managers, having met a lot of these people. I would think they would jump on anything that could earn them money. I think it would be quite easy for the fund managers to sell further gambling opportunity (I mean funds) to the less savvy Chinese public.

Andrew, If you are looking to invest more than 500 000 USD I can help you to invest it in property or other fixed assets or even actual compnay investment. There are still ways to invest USD here that I know of.


Keep Post coming Micheal, I am your biggest fan.
Corny but true...