BlackRock Says China's Weaker Firms to Face Higher Bond Spreads

(Bloomberg) -- China’s weaker companies face the prospect of even higher borrowing costs in the bond market as defaults spread, according to BlackRock Inc.

At least six publicly-issued bonds defaulted in the onshore market in the first quarter, the most in a year, according to Bloomberg-compiled data. The extra yield investors demand to hold China’s riskier notes has already jumped to the highest in almost two years, as a government crackdown on leverage limits financing channels.

“As defaults go up, from a low base, we should see more credit differentiation and wider credit spreads for weak credits,” said Eric Liu, portfolio manager of the Asia credit team at BlackRock in Singapore.

Chinese President Xi Jinping has been stepping up efforts to cut excessive borrowing in the financial system, and traders have predicted bond defaults will climb. Some 1,445 companies in the nation have seen their debt rating implied by default risks drop in the past 90 days versus only 291 that have seen an increase, according to the Bloomberg Default Risk model that tracks metrics including share performance, liabilities and cash flow.

While the central bank has been fine-tuning policy to offset the pain from the deleveraging campaign and cut the reserve-requirement ratio for some banks in April, borrowing costs for weaker firms have still risen. The extra yield investors demand to hold three-year AA- rated corporate bonds over top-rated notes has increased to 199 basis points, the highest level since September 2016.

That’s all adding to refinancing pressures, just as such borrowers face record bond maturities this year.

Liu said he prefers state-owned companies with strategic importance to the central government or local governments because they will benefit from supply-side reforms, and their credit profiles will improve with the deleveraging efforts. In contrast, BlackRock is cautious on fundamentally weak private credits as well as state firms with little strategic importance, he said.

The possibility can’t be ruled out that China will experience its first onshore bond default by a local government financing vehicle this year, even if the chance is low, Liu said.

©2018 Bloomberg L.P.

With assistance from Judy Chen

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