Chinese bond market: analysis of price information Wang Jiang State University Higher School of Economics Moscow

Contents: 2 Chinese Bonds Market Overview Zero-coupon yield curve used by China Government Securities Depository Trust & Cleaning Co., Ltd Applying EFFAS-EBC methodology to Chinese bond market

Market overview 3 About 3946 bonds with total worth ,7 billion RMB issued since 1998 Currently traded: 1912 bonds with outstanding amount billion RMB About 1000 transactions a day with average daily turnaround about 160 billion RMB Bonds are traded at SSE, SZE, OTC and inter- bank markets

4 Market Structure

5

Outstanding Amount 6 Source:

Present Instruments 7 Treasure Bonds (Ministry of Finance). All terms. Bullet redemption. Majority has coupons. Central Bank Bills (Peoples Bank of China). Very short and short term. Majority are discounted. Bonds Issued by Government-Owned Banks All terms. Majority has coupons. Some have options. Corporate and Commercial Banks Bonds Others

Non-Governmental Credit Bonds Bond IssuanceNon-Governmental Credit Bonds Source: ChinabondSource: Wind Info

Current position: 9 Chinese Bonds Market Overview Zero-coupon yield curve used by CGSDTC Applying EFFAS-EBC methodology to Chinese bond market

History of Yield Curves Development in China 10 Research Stage( ): The first treasury bond yield curve was created under the Discounted Cash Flow (DCF) method. Development Stage ( ): Four yield curves, i.e. Inter-bank Treasury Bond, Exchange Treasury Bond, Treasury Bond (compounded) and Floating interest rate Treasury Bond, and Indices for Treasury Bond (Inter-bank and Exchange) were worked out by CGSDTC. The method of quadratic polynomial was adapted at this stage. Initial Application Stage (2006-now): CGSDTC has worked out a wide variety of yield curves and indices; the study and analysis for bond pricing are rapidly improved.

11 ChinaBond Yield Curve Inter-bank Market Treasury Bond Floating/ Fix Rate Central Bank Bill Policy Bank Bond Floating/ Fix Rate Corporate Bond Floating/ Fix Rate Commercial Bank Bond Floating/ Fix Rate Commercial Paper ABS Floating/ Fix Rate China Fixed-rate Treasury Bond Exchange Market Treasury Bond Corporate Bond Chinabond yield curves structure

CGSDTC Current Methodology 12 Data Filtering Expert and Historical Estimates Hermite Polynomial Fitting

Data Sources 13 Deals Prices from OTC, Shanghai and Shenzhen Exchange markets Bid – Ask Quotes from Interbank market Market participants estimates

Data Filtering 14 In June 18, 2007 the data price contains T-bond , YTM = 4.19, yield = 2.71%. The yield is much lower than the last working day (June 15, 2007). With the same YTM T-bond yield was 3.57% and is below the yield of (3.36%) with the YTM = years. So, this data is anomaly.

Fix bonds maturity dates as grid nodes x = - YTM Fit Hermite polynomial such that: a) Bond pricing equation holds P – Bond price, A – Accumulative coupon income, F – Nominal bond price, t – Moments coupon payment, b) Yield expert estimates are recovered 15 Hermite Polynomial Fitting

Result of Matlab simulation 16

Current position: 17 Chinese Bonds Market Overview Zero-coupon yield curve used by CGSDTC Preliminary study of the Chinese bond market

Data Sources 18 Daily trading results Bid – Ask Quotes from 8 banks: Industrial and Commercial Bank of China Agricultural Bank of China Bank of China China Construction Bank Bank of Beijing China Merchants Bank China MinSheng Bank Bank of Nanjing

19 Quotes co-Movement

20 Bid-Ask Spread co-Movement

21 Quotes: peculiarities Data contains errors: Bid > Ask Quoted YTM corresponds to smth slightly less than the Ask quote Bid-Ask spread is far too wide 4 banks quote all bonds, 4 banks quote only a subset.

22 “Best” inter-bank Bid-Ask spreads

EFFAS-EBC meeting, June Quotes: Yield Curves

24 Quotes: (Bid+Ask)/2

25 Quotes: Summary Different banks use different quoting schemes: the way quotes move differs a lot Either quotes are non-committing or banks are isolated from each other: systematic arbitrage is present Bonds are likely to be quoted in groups by time to maturity.

26 Prices: peculiarities Highly illiquid market Prices may lie well outside Bid/Ask quotes Similar bonds are frequently priced unlike each other No filtering helps since “unusual” prices tend to repeat in time

27 Number of Deals

28 Turnover

29 Price vs. Bid-Ask

30 Prices: Yield curves

31 More smoothing

32 Prices: Summary Data from different sources are likely to be mixed Yield curves should be constructed from quotes Extremely illiquid market, price information is unreliable