## China Deepens Global Finance Links as It Joins Benchmark Indexes

_IMF Blog, June 19, 2019_

## Source details

**Canonical URL:** [China Deepens Global Finance Links as It Joins Benchmark Indexes](https://www.imf.org/en/blogs/articles/2019/06/19/blog061919-china-deepens-global-finance-links-as-it-joins-benchmark-indexes)

## Other formats

- [Markdown version](/en/blogs/articles/2019/06/19/blog061919-china-deepens-global-finance-links-as-it-joins-benchmark-indexes/index.md)
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## Bibliographic details
- Authors: Sally Chen, Dimitris Drakopoulos, Rohit Goel
- Published: June 19, 2019

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### Overview / Background
- China is entering the next stage of integration into global financial markets, driven by inclusion of Chinese stocks and bonds in a larger number of global financial-market indexes.
- Inclusion in benchmark indexes will prompt investment managers who track or aim to outperform these indexes to adjust portfolios to include Chinese securities, accelerating foreign portfolio flows and ownership.

### Estimated inflows and index inclusion scenarios
- Bloomberg Barclays Global Aggregate Index inclusion (announced in April): local currency-denominated bonds issued by the central government and by state-owned policy banks.
  - Assets tracking the Bloomberg Barclays index could total $2 trillion to $2.5 trillion.
  - Assuming an expected weighting of 6 percent, China can expect to see an additional $150 billion of inflows by 2020.
- Wider index inclusion (FTSE and JP Morgan indexes plus Bloomberg Barclays and MSCI equity inclusion) could produce:
  - Benchmark-driven portfolio inflows of as much as $450 billion, or 3 percent to 4 percent of GDP, in the next two to three years.
- Reasons these preliminary estimates may be conservative:
  - More securities may become eligible for index inclusion (e.g., local government and corporate bonds).
  - Currently, only government and policy bank bonds, which account for about 40 percent of the $12 trillion Chinese market, are included in a major global bond index.
  - China’s onshore A-shares: only 20 percent of these will be included in the MSCI equity index by November 2019.

### Drivers making Chinese bonds attractive
- Scale and characteristics cited as attractive to foreign investors:
  - Large size of the local currency bond market.
  - A+ credit rating.
  - High yield relative to similarly rated sovereigns.
  - Low correlation with other bond markets.
- Consequences:
  - Some investors might hold more than benchmark target weights.
  - Managers of central bank reserves and sovereign wealth funds, which have invested relatively little in Chinese assets, may increase allocations as liquidity and accessibility improve.

### Implications for China
- Greater foreign investor participation may:
  - Subject Chinese markets to greater scrutiny and stricter governance standards.
  - Lead to improved market liquidity.
  - Expand the range of instruments, including those for hedging foreign exchange risks, benefiting local and foreign investors.
- Recent portfolio flows and market access developments:
  - Foreign ownership of Chinese government bonds quadrupled to almost 8 percent in the past five years.
  - Portfolio flows to China increased sharply after MSCI equity index inclusion in 2018: aggregate portfolio inflows rose to $159 billion in 2018 from $50 billion in 2016.
  - Overseas purchases of A-shares through the Stock Connect program were especially strong in 2018.
  - Bond flows from asset managers were relatively subdued ahead of Bloomberg index inclusion in April but have picked up recently.
  - The number of investors registered and participating in the Bond Connect program increased sharply in the last 12 months, suggesting medium-term increases in flows.

### Implications for other emerging markets
- Potential negative rebalancing effects:
  - Investors may reduce purchases of other emerging-market assets as they re-balance portfolios to reflect China’s inclusion.
  - Emerging market government issuers could see an average reduction of allocations by $1 billion to $3 billion each.
  - Effects could be larger for countries where benchmark-driven holdings represent a significant share of foreign debt.
- Broader systemic implications:
  - Because benchmark-driven investors tend to be more sensitive to changes in global financial conditions, their greater role may cause external shocks to propagate to medium-sized emerging and frontier market economies faster than in the past.
- Offsetting factors:
  - Benchmark-driven investors who actively manage portfolios can substantially deviate from benchmark weights to try to outperform the index, complicating a simple rebalancing story.
  - Inclusion of China will likely alter risk-return characteristics of main indexes for emerging-market local currency debt: Chinese bonds have a better than average rating and lower yields, so the average index will have a relatively higher rating and lower yield.

### Key statistics and figures (verbatim)
- Foreign ownership of Chinese government bonds quadrupled to almost 8 percent (past five years).
- Assets tracking the Bloomberg Barclays index could total $2 trillion to $2.5 trillion.
- Expected weighting: 6 percent.
- Additional inflows expected by 2020: $150 billion.
- Potential broader benchmark-driven inflows: as much as $450 billion, or 3 percent to 4 percent of GDP (next two to three years).
- Government and policy bank bonds account for about 40 percent of the $12 trillion Chinese market.
- Only 20 percent of onshore A-shares will be included in the MSCI equity index by November 2019.
- Aggregate portfolio inflows to China: $159 billion in 2018, $50 billion in 2016.
- Emerging market government issuers could see average reductions of allocations by $1 billion to $3 billion each.

*Source: IMF blog post "China Deepens Global Finance Links as It Joins Benchmark Indexes" (June 19, 2019).*

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## Content in this bundle

- **World Bank Document**
  - [World Bank Document (Markdown version)](/curated/en/332371555391833025/pdf/Inaugural-RAMP-Survey-on-the-Reserve-Management-Practices-of-Central-Banks-Results-and-Observations.pdf.md){rel="alternate" type="text/markdown"}
  - [World Bank Document (PDF)](/curated/en/332371555391833025/pdf/Inaugural-RAMP-Survey-on-the-Reserve-Management-Practices-of-Central-Banks-Results-and-Observations.pdf){rel="external" type="application/pdf;charset=utf-8"}

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## References

- [日本語](http://www.imf.org/ja/News/Articles/2019/06/19/blog061919-china-deepens-global-finance-links-as-it-joins-benchmark-indexes)
- [https://www.imf.org/wp-content/uploads/2019/06/china1.png](https://www.imf.org/wp-content/uploads/2019/06/china1.png)
- [projections](https://www.imf.org/en/Publications/WEO/Issues/2019/03/28/world-economic-outlook-april-2019)
- [https://www.imf.org/wp-content/uploads/2019/06/china2.png](https://www.imf.org/wp-content/uploads/2019/06/china2.png)
- [Global Financial Stability Report](https://www.imf.org/en/Publications/GFSR/Issues/2019/03/27/Global-Financial-Stability-Report-April-2019)
- [https://www.imf.org/wp-content/uploads/2019/06/china3.png](https://www.imf.org/wp-content/uploads/2019/06/china3.png)
- [https://www.imf.org/wp-content/uploads/2019/06/China4.png](https://www.imf.org/wp-content/uploads/2019/06/China4.png)
- [Weak Spots in Global Financial System Could Amplify Shocks](https://blogs.imf.org/2019/04/10/weak-spots-in-global-financial-system-could-amplify-shocks/)
- [The Impact of US-China Trade Tensions](https://blogs.imf.org/2019/05/23/the-impact-of-us-china-trade-tensions/)
- [Chart of the Week: China’s Digital Dividend](https://blogs.imf.org/2019/02/06/chinas-digital-dividend/)

_Source: https://www.imf.org/en/blogs/articles/2019/06/19/blog061919-china-deepens-global-finance-links-as-it-joins-benchmark-indexes_