Meeting Cash Management Needs in China
by Jim Fuell, Managing Director, Head of Global Liquidity, EMA, J.P. Morgan
Domestic firms and multinational companies operating in China have accumulated record levels of cash, despite the rate of economic expansion slowing in the world’s second-largest economy. The growth in cash and cash equivalents held by companies has been faster in Asia than in other regions, with levels peaking in China . For renminbi cash investors, the opportunity set has, in the past, been largely confined to bank deposits. However, the Chinese money market fund industry is proving an increasingly attractive alternative.
The trend towards growing cash reserves is unlikely to reverse anytime soon. Although few expect the Chinese economy to return to the double-digit growth rates observed during the last decade, growth rates are likely to settle down to more constant and sustainable levels. With liquidity and efficient cash management concerns at the fore, corporate treasurers face the important decision of how best to achieve the level of security and liquidity they need for cash, while also focusing on yield optimisation.
A traditionally limited opportunity set
The options for domestic companies and multinationals with operations in China that have accumulated significant renminbi-denominated reserves, and are looking at ways to generate a return from their cash, have traditionally been limited to bank deposits. The terms for most domestic bank deposits have been set by the People’s Bank of China, forcing companies to accept yields that are lower than market rates.
Furthermore, the environment has been one of tight regulation of cross-border money transactions, with currency controls restricting outflows for many companies to periodic dividend payments. This has effectively meant that surplus cash is ‘trapped’, although this appears to be changing. While some domestic Chinese banks offer structured deposits with more flexible tenors and less compressed rates of return, ways of extracting maximum value from renminbi-denominated cash reserves have been scarce.
Renminbi-denominated money market funds
The opportunity set is, however, broadening. Although investing directly in fixed income securities in China comes with its own plethora of challenges, the ease of access to short-dated renminbi-denominated securities provided by dedicated money market funds is something treasurers should consider.
Resulting from a wave of innovation in the now well-established and deepening Chinese fixed income market, money market funds typically invest in government-issued securities with maturities of up to one year, as well as other short-dated instruments, including certificates of deposit and repurchase agreements (repos). The pool of investible assets is wide, with more than two-thirds of the Chinese fixed income market comprised of government securities, and over one-third having maturities of less than three years.
For corporate treasurers, using renminbi-denominated money market funds for their cash management needs has several advantages. At the basic level, foremost among corporate treasurers’ concerns are likely to be the safety of their cash (principal protection), the ease of access (liquidity) and the rate of return on their investment (yield). It is useful to look at how money market funds aim to achieve each of these objectives.
Preserving principal is a key concern
There is a growing focus among both domestic companies and multinationals operating in China on the effective management of their renminbi-denominated cash reserves. At the core of these efforts is the need to preserve principal. Corporate treasurers are increasingly turning to money market funds, many of which are AAA-rated and, therefore, represent the highest standards of credit quality.
As the Chinese money market fund industry has matured, it has come to share the characteristics of its developed market counterparts, in terms of providing full transparency about easy-to-understand fund structures. Managed to international standards, a cash allocation to a renminbi-denominated fund can fit in with existing company-wide investment policies. The large size of many of the funds allows treasurers to adhere to formal guidelines, such as constraints on the maximum percentage of the total assets under management that their holding in the fund can represent, or the minimum number of counterparties that a fund must have exposure to. A large and stable client base, in many cases comprising hundreds of institutional investors, provides an underlying layer of support.