The Name’s Bond, Convertible Bond

Here are some of the biggest stories from last week:

• The IMF boosted its economic growth forecasts for China this year and next.
• Chinese tech firms are increasingly using convertible bonds to fund share buybacks.
• Japan’s 10-year government bond yield climbed above 1% for the first time in 11 years.
• ConocoPhillips agreed to buy Marathon Oil, extending the energy industry’s recent consolidation wave.
• BlackRock’s $20 billion ETF is now the world’s biggest bitcoin fund by assets.

Dig deeper into these stories in this week’s review.

Macro

In welcome news for China, the IMF upgraded its growth forecasts for the world’s second-biggest economy this week. The institution now expects China’s economy to grow 5% this year, raising its forecast from 4.6% just a few weeks ago to reflect the strong expansion at the start of 2024 and additional support from the government. The IMF reckons that the momentum will continue next year too, raising its 2025 growth forecast to 4.5% from 4.1%. But that rosier outlook came with some warnings too, with the IMF reiterating calls for China’s government to scale back industrial policies that could affect trading partners and increase efforts to lift domestic demand instead. The comments came amid growing concerns from China’s trade partners that its industrial policies are creating overcapacity in sectors such as EVs and renewable energy.

Convertible bonds

More and more Chinese tech firms are expected to turn to convertible bonds to fund share buybacks after two major companies raised a combined $6.5 billion through such notes last week. Convertible bonds are like regular ones, except they can be swapped for shares at a later date – usually if or when the stock reaches a certain pre-set price. And because they come with that extra benefit, convertibles tend to pay less in interest than normal ones. That allows firms to borrow more cheaply, without immediately watering down the value of their stock by issuing brand-new shares.

Because of their lower cost, convertibles become a compelling option for borrowers in a high interest rate environment. Sensing an opportunity, China’s biggest tech firms, who are spending billions of dollars to buy back their own shares in an effort to prop up their falling stock prices, are increasingly turning to the convertibles market to raise funds. Just last week, JD.com successfully issued $2 billion in convertible bonds, with eager investors buying more than the initial target of $1.5 billion. That was followed a few days later by Alibaba, which sold $4.5 billion in debt that can be turned into equity – a record for convertibles denominated in dollars by an Asian company.

Bonds

In another major milestone for Japanese investors, the country’s 10-year government bond yield hit its highest level in 11 years last week after traders braced for more rate hikes as part of the central bank’s historic policy shift.

Back in March, the Bank of Japan delivered its first rate hike since 2007, scrapping eight years of negative interest rates as it became increasingly confident that its long fight with economy-busting deflation has finally been won. But with Japan’s inflation rate staying at or above the central bank’s 2% target for a 25th consecutive month in April, traders have been betting on further increases to borrowing costs this year. What’s more, the central bank is under increasing pressure to raise interest rates in response to the yen falling to a 34-year low, despite multiple interventions by Japanese authorities to bolster the currency.

Those factors helped send Japan’s 10-year government bond yield above 1% last week – a level not seen since May 2013. The move was made possible by the BoJ’s decision earlier this year to scrap its yield curve control program, which had involved explicitly capping long-term bond yields. It’s worth noting that despite the central bank abandoning the tactic, it pledged to continue buying long-term government bonds to avoid causing shocks to financial markets. But it surprised traders a few weeks ago by buying a smaller amount of government bonds than expected, which led to a further increase in the 10-year yield.

Looking ahead, while the BoJ may reduce its bond purchases even more, it’s unlikely to stop them entirely or to start selling them outright. Instead, officials believe that allowing the bonds they hold to mature will naturally decrease the size of the central bank's huge portfolio. Annual maturities from the portfolio will run at about 70 trillion yen during the next few years, but with the BoJ buying bonds at a fraction of that pace, even small adjustments to the purchase schedule could tip the portfolio into decline. That would, in turn, potentially lead to even higher bond yields.

Commodities

The US oil and gas industry went on a $250 billion buying spree in 2023, as big companies looked to snap up the country’s best remaining shale resources and consolidate a once-fragmented sector. Exxon and Chevron made massive acquisitions last October, signing deals that had price tags of $60 billion and $53 billion, respectively. That sparked a succession of acquisitions, with companies including Occidental Petroleum and Diamondback Energy soon following suit. The latter outbid ConocoPhillips to snap up Endeavor Energy – one of the most sought-after private oil producers in the US. So not wanting to be left behind, ConocoPhillips agreed on Wednesday to buy Marathon Oil in a $17 billion all-stock deal.

Crypto

That was quick: just months after its launch, BlackRock's bitcoin ETF has overtaken Grayscale’s decade-old fund in size after amassing almost $20 billion in total assets since its listing at the start of the year. That makes BlackRock’s iShares Bitcoin Trust the world’s biggest fund for the original cryptocurrency, driven by $16.5 billion worth of inflows and a surge in bitcoin’s price since the ETF’s debut on January 11. Investors have pulled $17.7 billion from the Grayscale fund over the same period, mainly due to its much higher fee (it converted from a trust into an ETF on January 11, but kept its 1.5% fee – more than a percentage point higher than the new market entrants).

Next week

• Monday: Nothing major.
• Tuesday: US job openings and labor turnover survey (April). Earnings: CrowdStrike.
• Wednesday: Eurozone producer price index (April), Bank of Canada interest rate announcement.
• Thursday: Eurozone retail sales (April), European Central Bank interest rate announcement, US trade balance (April).
• Friday: China trade balance (May), Japan household spending (April), US labor market report (May).