CHINA’S money markets are bracing for a rough transition into 2017 as a traditional year-end cash deficit coincides with heavy capital outflows and a disruptive bond default that are creating sporadic cash shortages and ramping up counterparty risk.

    Reports of brokerage Sealand Securities’ default on a bond transaction with a bank couldn’t have come at a worse time, sowing distrust and wariness in a market that was already stressed. Sealand, which is being investigated by the securities regulator, said yesterday it will take responsibility for what it called forged bond agreements.

    “The market is short of money. People are rushing to sell everything to get liquidity, from money market funds to corporate bonds to treasuries,” said Gu Weiyong, chief investment officer at bond-focused hedge fund manager Ucom Investment Co. “It’s a turning point from bull to bear.”

    The yuan currency has fallen to levels last seen during the 2008 global financial crisis, 10-year bond yields have soared and Chinese treasury bond futures have been knocked down in an illiquid market.

    Fuelled by easy money, 10-year Chinese bonds enjoyed a three-year 200-basis point rally, with yields hitting a 14-year low of 2.75 percent in early November. Having already risen to 3.4 percent, Gu expects yields to reach 4 percent next year.

    Faced with unrelenting capital outflows, authorities seem determined to keep a tight rein on cash, lending limited amounts for longer periods and at higher cost.

    Traders and fund managers expect little respite leading into the Lunar New Year holidays at the end of January, a period in which demand for cash is high.

    “I’m worried that the bond market has witnessed just the first wave of selloffs,” said Zhou Li, president at bond-focused asset manager Rationalstone Investment.

    Some fund managers even reckon the selloff could turn as ugly as China’s stock market rout between June and August last year that also weighed on other emerging markets.

    “We should raise our alert system to the level as high as during the equity market rescue campaign last year, and promptly enact our crisis management plan to fight the currency and financial wars,” said Wang Hongyuan, co-chairman of First Seafront Fund Management Co.

    Financial magazine Caixin reported last week that the People’s Bank of China had directed banks to resume lending.

    (SD-Agencies)