Making history

Chinese corporate bond defaults on course to be highest ever

Citic Guoan Group, a subsidiary of state-owned conglomerate Citic, has defaulted on its Rmb3 billion bond. It is the biggest corporate bond default in China so far this year.
The risk of debt default looms over many Chinese firms.
The risk of debt default looms over many Chinese firms.

The level of corporate bond defaults in China is already the second highest on record, and it may be the highest ever by the end of this year. In the first four months of the year, the total value of corporate bond defaults in the country reached Rmb40 billion ($5.9 billion), more than any previous full year except 2018, according to Chinese financial data provider, Wind.

The total value of Chinese corporate bond defaults for the whole of 2015, 2016 and 2017 was Rmb11.5 billion, Rmb39.4 billion and Rmb33.8 billion respectively.

Last year was a record with the default of 125 Chinese corporate bonds totaling Rmb121 billion. But given that 60 corporate bonds totaling Rmb40 billion defaulted in the first four months this year, the level in the first third of this year is proportionately equal to last year.

Manufacturers in China face default risks. The nation’s manufacturing purchasing managers’ index (PMI) fell to 50.1% in April from 50.5% in March, the National Bureau of Statistics announced on Tuesday. PMI measures sentiment among factory managers, and manufacturing is the sector which bears the most credit risk in China. Over the past 12 months, 134 manufacturing companies have received ratings warnings. The financial sector is a distant second at 66.

Market opinion is divided whether Chinese corporate bond defaults for the whole of this year will exceed last year to hit a new record.

Defaults are likely to shrink for the remainder of this year, thanks to the government’s policies to boost funding for Chinese companies, say some. In March for instance, the China Banking and Insurance Regulatory Commission ordered large state-owned banks to increase lending to small companies by over 30% this year.  

Given the prevailing pressure on weaker companies, the level of default for the whole of this year will be the same or slightly higher than last year, say others. With tight market liquidity, uncertainties over China’s economy and the ongoing Sino-US trade war, there is still pressure on corporate earnings.

Investors in Chinese corporate debt are now more risk averse, and tend to allocate money to the bonds of state-owned enterprises and better-quality private companies. “Investors are less willing to invest in long-term corporate bonds issued by weak private companies [those with domestic rating AA or below], so now you see Chinese corporate bonds with a shorter tenor," said Ivan Chung, head of greater China research and analysis at Moody’s.

Investors are demanding higher interest to buy Chinese corporate debt. For instance, the average 1-year yield of AA rated Chinese corporate paper has risen to 3.224% from 2.583% at the beginning of this year, according to Wind.

Weaker companies are likely to have difficulty refinancing their onshore bonds as they mature, given risk aversion from investors, higher funding costs and limited access to alternative funding channels, noted a Moody’s report at the end of April. And short tenors mean that companies need to refinance frequently.

“If companies cannot refinance and do not have enough cash on hand to repay their maturing debt, they will default. Weak liquidity was the main reason for last year's defaults,” Moody’s warned.

RECENT DEFAULTS

The most recent default occurred on Monday, when Neoglory Group, a private company engaged in ornaments, property and investment, defaulted on its Rmb1.6 billion bond.

On Sunday, Citic Group subsidiary Citic Guoan Group defaulted on its Rmb3 billion bond. It is the biggest single corporate bond default in China this year and one of the largest on record. Citic Guoan, whose businesses include financial services, IT and property, had assets totaling Rmb200 billion in 2017. 

On Tuesday, Citic Guoan’s Shenzhen-listed subsidiary Citic Guoan Information Industry said that 1.43 billion of its shares, representing a 36.44% stake worth Rmb6.7 billion, have been frozen on Chinese court orders.

Even though the default rate of Chinese corporate bonds this year is high, in absolute terms it is very low. China had Rmb19 trillion of corporate debt outstanding at the end of last year, so Rmb40 billion of corporate bond defaults this year accounts for only 0.2% of all outstanding paper.

In January, Pan Gongsheng, deputy governor of the People’s Bank of China, said that the Chinese government will allow corporate defaults to continue, as they ensure market discipline and improve market pricing.

 

¬ Haymarket Media Limited. All rights reserved.

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