KBC's China fund arm sees CPI peaking, bond rally

By George Chen and Charlie Zhu

SHANGHAI (Reuters) - China's inflation is likely to peak soon and that will bolster the bearish domestic bond market, the head of Belgian financial group KBC's KBKBt.BR China fund management joint venture said on Thursday.

"We expect the CPI would peak in October or November," said Victor Yi of KBC-Goldstate Fund Management Co, which last month raised 5 billion yuan ($663 million) for a capital-guaranteed fund, its first product, that can invest up to 95 percent of proceeds in bonds.

Beijing may raise interest rates again soon, but that has been anticipated by bond investors, Yi told the Reuters China Century Summit.

After the interview, China's central bank announced it would raise banks' reserve requirement ratio by 0.5 percentage point, effective September 25.

"The bond market did not do very well recently because people didn't expect the CPI would rise so fast," he said.

"But the market has overreacted. If interest rates are raised again in September it wouldn't affect the bond market too much because that is anticipated now," Yi said at the summit, held at the Reuters office in Shanghai.

China's consumer price index in August probably rose to 5.9 percent, the highest rate in almost 11 years, according to a Reuters poll. Annual inflation hit a 10-year high of 5.6 percent in July, up from 4.4 percent in June, prompting the central bank to raise interest rates in August for the fourth time this year.

Most Chinese bond yields went up sharply in the first half of this year, although they have been edging down in the past few weeks.

"We have bought some bonds, but nearly all of them are short-dated products," Yi said.

KBC-Goldstate's capital-guaranteed fund is also finding it difficult to buy stocks at the moment because the benchmark Shanghai stock index .SSEC has doubled this year, on the back of a 130 percent surge in 2006.

"We are cautiously building up our stock positions," he said, adding that the fund had also bought into domestic new share offers and initial public offerings, currently a relatively safe investment in China.

Yi said the company had applied to regulators to launch its second product -- a low-risk balanced fund -- to raise 10 billion to 15 billion yuan, but he did not expect to receive approval until next year.

"The queue to apply for new funds is so long that it may take us a year to receive approval," he said.

Although many fund managers in China believe the share market's bull-run still has further to go, Yi said bond-focused balanced funds next year should become more popular than equity funds, which have dominated new launches this year, because investors' risk appetite is being dampened by the stock market surge.

"A shares are getting really expensive. Current prices are reflecting many listed companies' 2008 earnings already," Yi said.

($1=7.542 Yuan)