EFTA01459005.pdf

6 December 2015 Update: China Monthly: Rising challenges will trigger more policy easing in 2016 SDR basket rules need to be revised to facilitate trading. This will take time, but we have no doubt it is doable. •USD •EUR EWA a GBP JPY 100 We maintain our view that the Chinese government will 11 9.4 823 not allow sharp RMB depreciation in the rest of the 80 year. As the market expectation for December rate hike heightens, RMB depreciation would cause high volatility in the financial market which is damaging to 60 China's economy. We believe the PBoC may want to wait for the Fed to hike rate first and see how risks in 40 the emerging markets evolve, before it takes the next move on the exchange rate. 20 Zhiwoi Zhang, Hong Kong, Li Zang, Hong Kong, 2005 2010 2016 Investment strategy Sane MP, DatedasnI Fixed Income Strategy' Maintain long bias in 2016 The SDR inclusion of the RMB is a structurally positive We maintain our long bias on RMB bonds/rates market development for China. The most significant macro in 2016 as we believe the overall demand and supply implication is on reform outlook. The progress of balances remain favorable. Specifically, we argue the structural reforms has been slow. There is doubt following factors: among investors if China truly has the commitment to market oriented reforms. Such doubt heightened in the ▪ Liquidity outlook: We maintain our view that the summer after what happened in the equity market. The central bank will keep domestic liquidity flush to SDR inclusion may work as a catalyst to boost the help stabilize growth and support economic momentum of reforms in China. It indicates that the structural rebalancing. In addition to the four RRR authorities are keen to integrate China's economy cuts and 50bps cuts in policy rates that our further with the global economy, which may help to economist is calling for during 2016, we also better align China's domestic market operations with expect the PBoC to actively use its open market international best practices. liquidity tools (SLF, MLF, PSL and open market auctions) to smooth liquidity volatility (with interest The SDR inclusion is also positive from a global rate corridor framework ) and to provide liquidity to perspective. The global economy needs better policy targeted sectors. We forecast that the overnight coordination among the major economies. This is repo rate to ease towards 1.25%-1.5% and the 7D particularly important as the US is moving to exit QE repo rate to 1.75%-2% in 2016. and China's economy is slowing down. The SDR inclusion shows an encouraging sign that the policy • f.ioveininent bond supply outlook We expect fiscal makers are working collaboratively. The positive deficit to be financed by a combination of CGB and gesture from the international community will help municipal bond issuance. We forecast 2016 net China to play a constructive role as a global economic supply of CGBs at about RMB1560bn, up by 39% power. The world is better off with China and the other YoY from 2014, and 2016 net supply of municipal global powers working together. bonds at RMB800bn, up by 33% YoY. Supply of policy bank bonds. We expect the MoF continues The size of capital inflows in the short term may not be to carry out local government debt swap program high, as the SDR inclusion itself will only start in 2016 with about RMB3.5trn-4trn to municipal effectively on Oct I 2016. But China has opened its bond issuance as a result of the debt swap. fixed income and foreign exchange markets to foreign * Volatilities to remain subdued in HI and to central banks and sovereign wealth funds this year. We normalize in H2. In 2015, volatilities across all RMB expect these institutions will start investing in 2016. assets (equities, bonds, and FX) rose substantially Some argue that the market expectation of RMB during Q2-Q3 due to excessive leverages in the depreciation may jeopardize the inflows. We do not equity market and RMB exchange rate reform think this is the key constraint, as central banks hold measures. With regulators imposing various Euro and Yen assets despite these currencies also face temporary measures to clean up/reduce equity depreciation expectation. In our mind the key leverages, the macro prudential measures on the constraint is that the domestic market is not ready for FX market and monetary easing measures, asset foreign reserve managers yet. Infrastructure needs to volatilities are currently at relatively low levels be set up, liquidity condition needs to improve, and comparing with where they were over the past 12 Page 4 Deutsche Bank AG/Hong Kong CONFIDENTIAL — PURSUANT TO FED. R. CRIM. P. 6(e) DB-SDNY-0119194 CONFIDENTIAL SDNY_GM_00265378 EFTA01459005