One clear motive behind the influx of capital into China's bond market is the search for yield. Chinese government bonds yield close to 3 per cent; higher-quality Chinese corporates can yield 4 to 5 per cent. With US Treasury yields as low as they now are, some American investors, who have been less aggressive than their European and Japanese peers in searching for yield beyond their domestic market, may step up investments in overseas bond markets.
In fact, a basket approach may offer more consistent hedge value than any single country. Historically, a basket of 10 high-quality emerging market bonds, including China, have followed moves in US Treasuries quite closely, and have also offered hedge value against global equities with a similar success rate. By diversifying across countries, investors also diversify away from country-specific idiosyncrasies, leaving a portfolio that may better track US Treasuries than any individual country.
The ability of a basket of high quality emerging market bonds to add ballast to a broader portfolio began to surface more than a decade ago as each country's financial infrastructure strengthened. This included independent and credible central banks, large institutional pools of savings in pension funds and insurance companies, and a dramatic reduction in debt denominated in anything but their local currency.