In the financial world, where perceptions can drive market trends as much as facts, a recent analysis by Brad Setser, a former US Treasury official, sheds light on the enigmatic behavior of China in the US bond market. Despite the common narrative, China isn’t triggering a bond-market upheaval by massively unloading its Treasury holdings. Instead, as Setser elaborates in his Council on Foreign Relations piece, China is merely reshuffling its portfolio of US debt assets.
This clarification comes amid a backdrop of skyrocketing US Treasury yields, hitting 16-year highs and contributing to one of the worst market crashes in recent history. The financial community, grappling for explanations, eyed China with suspicion, particularly following Apollo Global Management’s Torsten Sløk’s observation of a $300 billion reduction in China’s Treasury holdings since 2021.
However, Setser’s analysis paints a different picture. He contends that China’s overall US bond holdings have been fairly constant since 2015. The official US Treasury International Capital data, which suggests a decrease in China’s holdings, is somewhat misleading, as it only accounts for foreign holdings in US custodians. Setser proposes a simple adjustment for Treasuries held by offshore custodians like Belgium’s Euroclear, which reveals a more stable picture of China’s US asset holdings, ranging between $1.8 and $1.9 trillion.
Moreover, Setser highlights a crucial oversight in the data – it doesn’t capture US asset holdings managed by third parties. China’s State Administration of Foreign Exchange, for instance, holds accounts with global bond and hedge funds, and private equity firms.
Interestingly, even when China has reduced its Treasury holdings, these sales have been considerably smaller than some data implies. In contrast, China’s purchases of other forms of US debt, like agency bonds, have risen. These bonds, issued by government-sponsored enterprises like Fannie Mae and Freddie Mac, have seen increased buying from Beijing due to soaring yields.
In a striking revelation, Setser estimates that in 2022 and the first half of 2023, China acquired over $100 billion in agency debt while only selling about $40 billion in Treasuries. “The only interesting evolution in China’s reserves in the past six years has been the shift into Agencies,” Setser notes, underscoring that a reduction in Treasury holdings doesn’t necessarily equate to a diminished presence in US bonds or the US dollar.
For investors and market analysts, Setser’s insights provide a nuanced understanding of China’s engagement with the US bond market. It’s a reminder that in the complex world of international finance, digging deeper into the data can reveal a reality quite different from the prevailing market narrative.