Why CNH bonds' performance in 1Q15 wasn't as bad as most people feared

Total return dipped just a tad 0.22%.

According to HSBC, the total return of CNH bonds (in USD) dipped just 0.22%. A strong FX rebound since 16 March, guided by the PBOC fixing, along with a dovish FOMC tone, was the key contributor.

As a result, offshore rates have started to decline: CCS rates are retreating to the sub-4% area for the first time in two months.

Here's more from HSBC:

In 2Q2015, we expect a tactical recovery in CNH bonds. The seasonality of FX strength and appeals for RMB's inclusion in the IMF's SDR basket offer an anchor. The underlying capital flow picture has become more balanced since the recent reversal of earlier inflows. CNH liquidity is underpinned by increasing outbound portfolio flows after recent policy relaxation. Southbound flows in the Stock Connect scheme have picked up substantially. Our economics team forecasts that China will deliver a 25bp interest rate cut and 100bp RRR cut this quarter. We think further monetary easing has more to do with lifting confidence rather than eroding the RMB carry.

In our baseline scenario, the 1-year CCS rate will retreat to the 3.2% area in the second quarter with 1-year bank CD offer rates down to the 3.6%-3.7% range. We forecast the average CNH yield to slide to 4.85% from their current 5.03%. The degree of bond yield compression will be less than for rates because resumption of inflows to CNH funds will take time, and institutional credit investors are looking for more convictions on currency stabilisation. Private banking flows are likely to be the main driver for this round of tactical recovery.

In strategy, we favour short-dated paper (up to 2 years) from sovereign to corporates, anticipating the inverted yield curve to normalise. Our top picks in high grade are CHMERC'16 (5.2%/4.7%), SKGLCH'16 (5.2%/4.8%), BEICAP'17 (5.4%/5.2%) and MAIKUN'17 (5.7%/5.5%). We also like FUTLAN'16 (10.9%/10.5%), PWRLNG'16 (13.4%/13.1%), SHUION'17 (9.2%/8.9%), QLSECU'17 (7.1%/6.8%), ORSECH'17 (6.9%/6.7%) and BHAIST'17 (7.5%/7.3%) among high yields.