Tonight Marks A Big Moment In The History Of The Yuan

Pay attention here. An under reported but historic event will take place tonight. The world’s first Yuan denominated IPO outside of mainland China will open for trading in Hong Kong. This is a very big deal as it marks a significant milestone in China’s long march toward liberalizing their capital account and opening their economy and markets to the outside world.

First let’s discuss the details of the offering. The company is a real estate investment trust called Hui Xian. It is a spin off of Mr. Li Ka-shing’s Cheung Kong Holdings’  Beijing Oriental Plaza which is a massive 800,000 sq meter shopping, office. residential and hotel complex located on Chang’an Avenue in downtown Peking. Anyone who has visited the city will appreciate the significance of this location with its close proximity to Tianamen Square, Zhongnanhai, The Great Hall of the People and the Forbidden City.

The company sold 2 billion units at 5.24 yuan each raising 10.48billion yuan (HK$12.46bil), which was at the bottom of its pricing range. According to a term sheet the reit was priced to yield 4.33% this year and 4.73% next.  This is below the yield offered by other reits listed in Hong Kong which currently average anywhere from 4.5 to 5% and may partially explain why the offering received only a tepid response from investors. The dividend will be paid in yuan but the company reserves the right to pay in other currencies if it cannot get Peking’s approval to pay in yuan. More on that later. The IPO was split,  80% sold to institutional investors and overseas hedge funds and 20% to retail investors in Hong Kong. The institutional tranche was fully subscribed and reports say the retail side was 1.5x oversubscribed.

Despite the lower yield to its peers, it is considerably higher and more attractive than rates being offered on yuan deposits in Hong Kong which range anywhere from 0.4 to 0.6% (via the HK currency peg to US$…thanks Mr. Bernanke!)…and yields on yuan denominated bonds between 1 to 3%. Also there is opportunity for the yuan to further appreciate and for yields to increase as rents normalize assuming the current oversupply of office space in Peking gets worked off.

There is a Catch 22 however and this probably also plays into the reason for the lack of enthusiasm for the offering. Despite the attractive fundamentals of the deal,  not all investors had enough yuan to subscribe for the amount they wanted.  Despite the moves to make Hong Kong the premier offshore trading centre for the yuan…the mainland authorities still have a long way to go. Currently yuan deposits in Hong Kong total approximately 407.7billion…that has quadrupled in the past year. By the end of the year it is expected that this amount will rise to 1 trillion. Experts say that there will be more yuan denominated reits soon as other Hong Kong property developers seek to monetise their mainland investments. This will place further demand for yuan in Hong Kong but the supply of it is still controlled by the mainland. Each transfer of yuan requires approval from the PRC mandarins. This yuan “shortage” is one of the reasons the first yuan denominated IPO’s, which will trade and settle in the currency,  will be reits as their stable yields attact buy and hold investors.

We expect, given the fact that the neither Hong Kong or the PRC wants another “B” Share debacle, that the Chinese government will relax/liberalize the rules regarding the continued moves to “globalize” their capital account and to accommodate the further growth and demand in this attactive market. The fact that one of the most influential and richest men in Asia, Hong Kong’s Li Ka-shing has thrown his weight and reputation behind the first offering…gives much credibility to the future success of this concept.

From a macro standpoint…this is a truly an historic event and marks a pick up in what has been a slow motion movie about opening of their economy and revaluing their currency. I view this optimistically and as further indication that the Chinese are serious about doing just that…otherwise why would they begin the process of making it more available to foreign investors? As US  legislators, in an effort to score political points, hypocritically continue to complain about “currency manipulation” by the Chinese,  I suggest they should focus more on our own failed policy maker’s manipulation of the US dollar and competitive devaluation of it…(people who live in glass houses etc)…before they further criticise the Chinese who have their own problems to contend with. But that is a story for another day.

For now I will applaud this latest move by China to further open their economy to foreigners…now if we can only get them to start investing their foreign currency reserves in a social safety net for their people to encourage consumption and help rebalance their domestic economy. Now that story, unlike this one has been, would be too difficult for the MSM to ignore.