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HSBC Global Asset Warns of Traps in China's Junk Bond Market

HSBC Global Asset Warns of Traps in China's Junk Bond Market

(Bloomberg) -- Yields on Chinese dollar junk bonds may look juicy, but investors could face losses as defaults climb, according to HSBC Global Asset Management.

“Investors are not paid to take most of the double-digit yielding names, especially those from over-capacity and small-scale privately owned enterprises which are also vulnerable to liquidity-chain disruption,” said Alfred Mui, head of Asian Credit at HSBC Global Asset Management in Hong Kong. “The potential capital loss may far exceed that of the carry earned over the remaining bond life,” he said.

The global flight to riskier assets, triggered by dovish shifts at major central banks, has helped Asian high-yield bond sales hit a record high this year, with China comprising of more than 75% of the volume, according to data compiled by Bloomberg. Property developers, which make up the biggest share of China’s high-yield dollar bond market, sold a record $13.7 billion of notes with a coupon of 10% or more this year, the data show.

HSBC Global Asset Warns of Traps in China's Junk Bond Market

“Against the backdrop of rising onshore default cases, we should be more vigilant on credit selection as part of the carry strategy,” Mui said, adding that companies with credit ratings of B or below may be facing tight liquidity and lack of alternative funding access. Carry refers to gains from borrowing at one rate and investing in something that earns another one.

The tally for defaulted bonds and number of new defaulters in China climbed in June as the state continues to roll back implicit debt guarantees and as companies contend with a slowing economy. Those strains are projected to continue, though monetary easing by the Federal Reserve and others around the world may support demand for risky assets.

"It’s attractive to take select names with 6% to 8% yield in the two-to-five years time bucket with double B and high single B ratings, which still offer decent premium over BBB," according to Mui.

Read also: After Roaring Start to Year, Asian Credit Faces Tougher Half

--With assistance from Natalie Lung.

To contact the reporter on this story: Annie Lee in Hong Kong at olee42@bloomberg.net

To contact the editors responsible for this story: Neha D'silva at ndsilva1@bloomberg.net, Christopher Anstey

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