An Ant Moves its Leg in China

I posted this under my legal name elsewhere, might as well share it hear too, for my truly faithful readers.

I was astounded to read, a couple of weeks back, that a Chinese money market fund associated with Ant Financial, was offering investors returns in excess of 4%. Ant Financial, for those of you who haven’t been following, spun out from Alibaba, the e-commerce juggernaut founded by Jack Ma, China’s analog to Amazon’s Jeff Bezos. This “money market fund” manages $200 billion, making it the world’s largest.

By comparison, US money market funds earn almost nothing these days.  Money market funds typically inv/est in highly-rated debt securities which mature in less than one year, so they are highly liquid, which means one can expect to sell them with no loss of value, even if interest rates rise.  At present, US 30-year bonds pay only 2.87%, but are exposed to considerable interest rate risk. 

“How can this be?”, you may well ask.  How can Chinese get 4% interest with no risk to principle, while in the US even very long-term debt offers considerably lower yield?  Great question, and the answer falls squarely into the bucket of “don’t ask.” It defies logic, and constitutes a systemic risk in China to which we would not expose ourselves, even if we could. But here’s the good news:  China’s regulators realize that there is a systemic risk, and it was recently reported that they are putting in place measures to reduce the returns available to money market funds and restore them to their original function of low risk and high liquidity. If all goes well, yields available to Chinese investors will be brought down in an orderly fashion, and risks will be squeezed out of the system.

But here’s the real question:  “Why should I, as an American, care about Chinese money market funds?”  The reason is that the Chinese capital markets are maturing, regulators are imposing order, and they are gradually opening to and integrating with the rest of the world’s markets. The two mainland Chinese stock exchanges, in Shanghai and Shenzhen, together have about $8 trillion in total market capitalization, out of about $77 trillion worldwide. But it is very difficult for foreign investors to invest directly in these markets, and they were only recently integrated into the most popular emerging markets index, and at a disproportionately low level.

Again you ask:  “Why should I care?”  And here’s the real reason: the more China opens, and the more tightly integrated are its markets with those of the rest of the world, the more aligned are its interests to our own. We come to be increasingly in business together. Perhaps the most haunting book of 2017 is Graham Allison’s Destined for War: Can America and China Escape Thucydides’s Trap. Basically, Allison’s thesis is that, most of the time in history, when a rising power (China) comes into conflict with an existing power (the USA), there is most often war. War with China would be ugly, and would be unlikely to be just us against them. Allies would be dragged in, things would escalate... Even if we won, we would lose.

So this is why we care, and this is why we pay attention to these things. Although there are many skeptics these days about the benefits of markets, overall they have been forces for good in the world last century. Markets help capital connect with opportunities, and regulators make sure that this happens in an orderly fashion. As this great swarm of ants in China is brought under control, we all stand to benefit.