In the opening week of 2025, the bond market showed a remarkable upward momentum, highlighted by a striking decline in the 10-year government bond yield, which dipped below the 1.6% mark at one pointBy January 3, it stabilized at this level, while the 30-year bond yield also settled below 1.85%. This trend sparked discussions among market analysts regarding the implications for economic recovery and future monetary policy.

Analysts identified a complex interplay between various economic indicators that still need monitoring for substantive recoveryThere remains optimism surrounding loose monetary policies, with both reserve requirement rate cuts and interest rate reductions anticipatedHowever, a reversal of the bullish bond logic seems complicated, leading many to predict that the central interest rate for bonds will likely drift lower over time

Yet, in the short term, the market faces numerous disruptive factorsMany investors have already built expectations of interest rate cuts considerably into pricing, leading to possible marginal changes in fundamentals, liquidity, supply of government bonds, and institutional allocations that could emphasize fluctuating market conditions.

A Sustained Climb in Bond Markets

As the bond market continues its upward trajectory into the New Year, January 2 marked the first trading day when yields on both short and long-term government bonds saw widespread decreasesBy January 3, even amid significant declines in the stock market, the bond market maintained its upward trend, with the 10-year government bond yield firmly resting at 1.6% and the 30-year yield dipping below 1.85%. The downward trend in yields appears persistently strong.

The upward movement in the bond market may be significantly driven by the concentrated trading actions of institutional investors

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One bond trader reported that trading activity remains notably bullish"We observe that institutional investors, particularly funds, have been continuously buying, with a trend towards extending their duration," the trader noted, indicating a robust inflow of capital into bonds.

Wang Guanjun, a fixed-income analyst at Shanxi Securities, pointed out that the current market situation correlates to a phenomenon of "institutional rallying." On one hand, the central bank's loose monetary policy provides ample liquidity to institutional investors; on the other hand, the decision not to lower reserve requirements signals to investors the potential for future monetary looseningThis duality of "current abundant liquidity" and "expected future easing" encourages institutions to flock towards the bond market, consequently propelling it further upwards.

Additionally, the decline in the stock market over the last two trading days has reinforced the bond-stock trade-off effect, prompting more institutional investors to increase their bond holdings as a risk avoidance strategy amid market downturns

"This provides significant support for rising bond prices," Wang stated.

The economic backdrop is also lending considerable support to the bond marketSince September of the previous year, regulatory interventions in funding costs have become more frequentFor instance, in November, the market interest rate pricing self-regulation mechanism announced an initiative aimed at lowering non-bank deposits and interbank deposit ratesThe People's Bank of China's significant liquidity injection of 1.4 trillion yuan through reverse repos on the last trading day of December is viewed as a confidence booster for the marketThis included a net purchase of 300 billion yuan in government bonds and additional extensions of 300 billion yuan in medium-term lending facilities (MLF), resulting in a total liquidity injection of 2 trillion yuan to offset the maturing amount of 1.45 trillion yuan in MLFs for the month.

"While this liquidity injection did not meet the market's direct expectations for a reserve requirement reduction, it nevertheless provided substantial support for liquidity conditions

In light of the People's Bank of China's statistics from late November, a net injection of 550 billion yuan in base currency is akin to a reserve cut of 25 basis points," Wang asserted, emphasizing that the easing monetary policies are directly fueling the bull run in the bond market.

Continuing Liquidity Easing

Looking forward, research into forthcoming monetary policy trajectories suggests an inclination to intensify monetary control with greater predictability and effectivenessAnalysts recommend that the central bank remains poised to cut reserve requirements and interest rates opportunistically, depending on both domestic and international economic and financial circumstancesComparatively, recent remarks made during the third quarter meetings have shifted towards a more responsive approach to domestic and international factors influencing the financial ecosystem, leading market sentiment to expect no immediate changes in the current liquidity easing environment.

Tan Yiming, an analyst from Minsheng Securities, noted that historically, the central bank has a high likelihood of implementing a reserve cut between December and the Spring Festival, positing a notable probability of a 25 to 50 basis point cut in January

This would contribute positively to the decline in funding costs and alleviate liquidity stratification, further stimulating a downturn in interbank certsConversely, in the absence of a reserve requirement reduction, the central bank is likely to rely on reverse repos, MLFs, treasury transactions, and other liquidity maintenance methods, though funding costs may remain elevated, maintaining the "plentiful liquidity with high cost" scenario.

“Expectations for a relatively optimistic funding environment persist ahead of the Spring Festival,” stated analysts from Ping An SecuritiesThey observed that the prevailing economic expectations remain relatively subdued with only about 115 billion yuan in local government bond issuances planned for January 2025, indicating limited supply pressuresCoupled with the stance of "moderately loose monetary policy," the central bank is expected to maintain a supportive approach.

When discussing the means of liquidity expansion, Ping An Securities analysts anticipated that, despite the delayed nature of reserve cuts, there is still a reasonable probability of such actions before the Spring Festival, with the potential introduction of long-term liquidity injections

The central bank's deployment of new instruments, namely, the buy-back reverse repos and the transaction of treasury bonds, is expected to yield better liquidity effects than MLFs and open market operations (OMO), particularly in the context of extensive supply and significant maturities in late November and December, indicating that the utilized tools may sufficiently stabilize and maintain a favorable liquidity environment.

Increased Short-Term Volatility, Limited Space Ahead

While the overarching outlook remains bullish, a sense of caution seems to be setting in among some institutionsOne bond trader conveyed that their institution adopted a judicious stance, indicating an overall assessment that current market space is limited and prioritizing timely inventory reductions.

Analyst Yan Ziqi from Hua’an Securities also recognized the prevailing buying momentum over the preceding week, primarily attributed to fund managers, while other institutional players have started adopting a more watchful approach

Evidence from secondary market transactions suggests that the predominant buyers consist of funds, leading to a distinct disparity in purchasing power compared to other institutionsMajor allocations trend towards government bonds, regional financial bonds, local government bonds, and certain credit bonds, whereas other buying factions have shown restraint in comparison to prior months—most notably, insurance companies have maintained regular purchasing of local government bonds without increasing their holdings of 30-year government bonds.

“Should speculative behaviors in the bond market lead to elevated leverage levels, regulatory intervention may become necessary, potentially sparking marked volatility in bond markets,” Wang cautioned.

From a fundamental standpoint, some analysts believe that the ongoing liquidity easing has likely been fully priced in