Forex Reserves May Bring China SWF US$200 Billion

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Apr. 28 – The Chinese government is looking to increase diversification in its foreign exchange reserve management and may provide its sovereign wealth fund, China Investment Corporation (CIC), with another US$100-US$200 billion worth of investment, according to an April 26 report on Financial Times, which cited anonymous sources.

The China Investment Corporation was established in 2007 with the issuance of special bonds worth RMB1.55 trillion by the Ministry of Finance (MoF).  The wholly state-owned investment institution is reported to have allocated all the US$110 billion-capital it received before for offshore investments from the finance ministry. Speculation is high that the CIC will obtain a new injection of capital again, though the actual amount may remain under discussion.

CIC’s overseas investment did not meet expectations when it first began. Its investment in the stocks of The Blackstone Group and Morgan Stanley suffered significant losses during the Global Financial Crisis, and sources say its investments in Japan did not go well either after the country’s catastrophic earthquake and tsunami. A recent news report on Global Times says that the CIC saw a 2.1 percent loss in its overseas portfolio investment in 2008 alone. However, as the economy recovered, the CIC added US$58 billion worth of investment in 2009, and enjoyed a much higher return at 11.7 percent.

Li Jing, managing director of Morgan Stanley China Market, thinks such a post-crisis return rate is “satisfactory.” Li suggests that the CIC should seek a more diverse allocation for its enormous fund and consider physical investment in the future, such as investments in resources and real estate.

As the CIC was established to invest in foreign assets and manage the country’s US$1.4 trillion-foreign reserves at the time, analysts say the main purpose of the fund’s new injection is to relieve Beijing’s pressure brought by its investment losses associated with U.S. government debt.

Due to China’s inflexible yuan exchange rate system, continuous trade surplus, as well as speculative capital inflow, the country’s foreign exchange reserves have surged to over US$3 trillion by the end of the first quarter of the year. The US$1 trillion-gain over the past two years has made the country’s foreign reserves exceed a “reasonable level,” according to Zhou Xiaochuan, president of People’s Bank of China.

It is likely to be the time for the world’s largest foreign reserve holder to realize more diversification by reinvesting and better managing its huge forex reserves. If China does not do so, it may have to release another RMB20 trillion in the local market just to stabilize the exchange rate.

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