(Corrects billion to million in 2nd graf) By Saikat Chatterjee HONG KONG, May 9 (Reuters) - When Sven Lautenschlager,international funding officer at Germany's L-Bank, was talkingto potential investors on selling shorter-dated bonds in theoffshore yuan market, he was surprised to find they were askinghim to pay at least similar yields offered by bank paper. Even though the state bank of Baden-Wuerttemberg has soldfour yuan bonds amounting to nearly 700 million yuan ($114million) in the last two years, he was unwilling to do sobecause he said it didn't reflect the difference in creditratings between an AAA-rated lender such as L-Bank and some ofthe lower-rated bank paper floating in the secondary market. "From an issuer's perspective we are not willing to pay thatyield as that gives a wrong impression to our investors on howwe see our credit rating in the market and this lack ofdifferentiating between credits remains one of the keychallenges for this market going forward," Lautenschlager saidat a euromoney conference this week. Calls for credit ratings to more adequately reflect theunderlying risks in the three-year old "dim sum" market havebeen drowned out by bulging order books from Asian private banksand funds who have displayed their better knowledge of theseissuers as an offset to credit ratings. When the market began in late 2010, investors were drawn tothe prospects of investing in an asset class denominated in acurrency that was expected to strengthen at such a healthy ratethat investors began to reach for funky products like syntheticproducts in no time. When those bets were upended in a market selloff in late2011, investors began to pay more attention to credit risk inthese bonds and the demand for ratings grew, but those callsremained far more prevalent among overseas issuers than frommainland Chinese names who tapped into strong demand for yuanassets from Asian banks and funds. Indeed, Gary Lau, managing director of corporate finance atMoody's Investor Services in Hong Kong, estimates that only athird of the outstanding bonds in the CNH markets are currentlyrated compared to an overwhelming majority of bonds sold in U.S.dollars. That proportion in favour of unrated bonds grows morewhen it comes to the Chinese sector. Investor demand for yuan bonds remains robust especiallybecause the bulk of the demand for these bonds emerge frominvestors in Hong Kong and Singapore which makes this market,"unique and technically strong," according to Jon Pratt, thehead of Asia debt capital syndicate at Barclays Capital. Indeed, the first quarter of 2013 saw the second biggestissuance of yuan bonds on record, according to Thomson Reutersdata. The total volume of issuance this year may be a recordeven though large institutional investors like central banks andglobal pension funds are noticeable in their absence. The growing demand for CNH bonds also emerges from thestrengthening yuan, the launch of more yuan funds and regulatorychanges such as establishing a benchmark for issuers and thelikelihood for more capital market reforms. The yuan has been setting near-daily record highs in recentsessions. So while L-Bank may understandably feel miffed about theabsence of a credit rating differential in the dim sum market,it may have to wait for a while before investors start lookingat that barometer while buying bonds. WEEK IN REVIEW: * Eddie Ye, deputy chief executive at the Hong Kong MonetaryAuthority, said this week that increased cooperation betweendifferent offshore yuan markets is conducive to the growth ofthe CNH markets. To that end, Hong Kong has lengthened theoperating hours of the RMB Real Time Gross Settlement systems tofacilitate trade settlement. * On the heels of Hong Kong regulators establishing abenchmark reference rate in the CNH markets, HSBC recentlyexecuted its first CNH HIBOR interest rate swap for a notionalvalue of 100 million yuan for a one year tenor and a forwardstart in July. A fixed rate of 2.64 percent was swamped against3-month CNH Hibor which will be launched in June. * Chinese property firm Greentown raised a 2.5 billion yuan,3-year bond at 5.63 percent, the lower end of price guidance.One of the biggest bond offerings in the CNH market, it achievedsignificant cost savings compared to the U.S. bond markets. Thefinal order book of the offering was in excess of 16 billionyuan, with 126 investors participating. * A weekend SAFE regulation asking onshore banks to adhereto new foreign currency loan to deposit ratios have sentoffshore yuan markets in a tizzy as banks were forced to unwindprevious long yuan positions. While the sharp market movesearlier this week have subsided for now, traders say the yuanmay be a lot more volatile in the short term. CHART OF THE WEEK: Deposits in Hong Kong banks: http://link.reuters.com/nez26t Yuan deposits have begun to rise again. Deposits in HongKong banks grew to RMB 670 billion in the latest data endingMarch Cross-border trade settlement in yuan registered an evenmore impressive jump (54 percent on a month-on-month) basis to341 billion yuan. RECENT STORIES:CNH Tracker-A booster shot for the Hong Kong market China targets hot money inflows with new forex rules More stories about the CNH market Daily onshore yuan reports Daily China money market reports Offshore yuan rate Onshore yuan rate Offshore yuan dealt Onshore yuan on CFETS THOMSON REUTERS SPEED GUIDES ($1 = 6.1410 Chinese yuan) (Additional reporting by Umesh Desai; Editing by Kim Coghill)
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