China: The Corporate Bond Defaults

Published on November 24, 2020

On Sunday, November 22, Vice Premier Liu He presided over a meeting in Zhongnanhai of the Financial Stability and Development Committee of the State Council to study how better to safeguard the stability of China’s bond markets.

The meeting noted a recently growing number of violations in the corporate bond trading markets, resulting in a series of mass defaults over the last few weeks by big name state-owned enterprises including Yongmei Holdings, Tianqi Lithium, Baoshang Bank, Brilliance Auto, and Ziguang Group.

** Noting the rapid rise in market risk aversion after these bankruptcies, including a significant discounting in the price of related bonds, a sharp drop in the net value of public funds, and asset sales, the Vice Premier and meeting participants reiterated their “zero tolerance” policy towards illegal activities. They tasked the Ministry of Finance, People’s Bank of China, China Banking and Insurance Regulatory Commission, and other agencies to set up a joint working committee to inspect the companies that have defaulted or may default — and to hold relevant people accountable.

** The meeting took note of the fact that there have been 112 defaulted bonds so far this year in China, with a total face value of 131 billion yuan, compared with the default of 184 bonds with a total face value of 150 billion yuan for last year. That comparison might seem encouraging, but participants warned that while the number of defaults so far this year is considerably below 2019 numbers, even with just 40 days left in the year, the overall size of 2020 corporate defaults is likely to exceed last year’s figures.

** In the big picture, while noting that China’s bond market matches its position as the second economy in the world, the FSDC suggested there is considerable room left for structural improvements to the country’s domestic capital markets, especially as the bulk of foreign direct investment into the country is through the banking system, and not the bond markets. Indeed, as of October, overseas bond holders accounted for a mere 2.7% of China’s total bond holdings, and just 9.4% of Chinese government bonds.

** Sources indicate that behind these discussions was the desire to attract more investment into the country and to show that despite the wave of defaults China’s bond market is generally healthy and attractive to investors. They predicted that in order to achieve its objectives, China “will have no choice” but to continue easing limits for foreign capital to enter its bond market.

** Specifically, they emphasized that China government bonds, and the bonds of the 97 enterprises directly under the State-owned Assets Supervision and Administration Commission, are as good as risk-free, adding to the mix the “almost risk-free,” and higher yielding, bonds issued by eastern coastal cities such as Hangzhou, Ningbo, Xiamen, Suzhou and Foshan, and even high-tech companies that are backed by the central government.

When it came, however, to buying corporate high-yield bonds, especially of fully private companies, they urged caution, and rigorous due diligence, as some of the weaker credits continue to get culled from the system.

 

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