China bond sale may offer relief to indebted SOEs

Investors reckon the $2 billion sovereign bond sale could help other Chinese borrowers lower their funding costs.

China is returning to the dollar market for the first time since 2004, in a move that could help its state-owned enterprises and quasi-sovereign banks lower their overall funding costs.

A successful debt sale could be a strong retort to the downgrades of China’s sovereign rating by Moody’s in May and S&P last month, both citing worries over the country’s alarming debt levels.

China’s total debt is expected to rise to almost 300% of its GDP in 2022, according to the IMF, which warned that the world’s second-largest economy is too reliant on debt-fuelled growth and that the surge in credit could lead to a financial crisis.

In a statement on Wednesday, China's Ministry of Finance said it would issue a five-year $1 billion and a ten-year $1 billion note in the coming days. The bonds will be listed on the Hong Kong Stock Exchange.

“China certainly doesn’t need the money,” Todd Schubert, head of fixed income research at Bank of Singapore, the private banking arm of OCBC Bank, told FinanceAsia. “It is more to improve pricing on all of the local and regional SOEs that have come and will continue to tap the market by providing a relative benchmark.”

Chinese borrowers accounted for 64% of the total G3 debt issuance so far this year, according to Citi. Bonds issued in G3 currencies across the Asia ex-Japan region stand at $234.9 billion so far this year, hitting a new record and surpassing the 2016 volume of $193.4 billion.

“There is a way of government saying that, regardless of the downgrade, the market is still receptive toward an issue priced at levels better than where the rating would suggest,” Schubert added.

In May, Moody’s downgraded China’s sovereign credit rating by one notch from Aa3 to A1, addressing investor concerns over the country’s rising debt in the face of slowing economic growth.  Almost six months later, S&P followed a similar move.

To be sure, China’s economic output has unexpectedly accelerated this year, rising 6.9% in the first six months due to impetus from record bank lending in 2016, a property boom and government stimulus in the form of infrastructure spending.

Therefore, the proposed debt sale is largely symbolic, when compared with the sheer size of China’s $366 billion worth of central government debt sales in the onshore market this year and the $3.1 trillion foreign-exchange reserves. 

At the end of 2016, China’s total outstanding foreign debt was 13% of GDP and 29% of its foreign-exchange reserves, according to the State Administration of Foreign Exchange.

Credit analysts expect the new five-year sovereign note to pay about 50bp over the US Treasury curves, implying a total yield of 2.45%; while, for the 10-year note, there is a 60bp premium over the US Treasury yield, leading to a yield of 2.95%.

Taking a more doubtful view, Ashley Perrott, head of pan-Asia fixed income at UBS asset management, said that “market discussions about proving a reference curve or a benchmark for pricing other China debt aren’t particularly good reasons in my opinion.”

“It's not like the market has any difficulty pricing all the China debt currently issued for many years, so what their true motivation really is is hard to say,” he added.

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