China's Risky Debt Heads Overseas as Deleveraging Rolls On
(Bloomberg) -- The global hunt for yield might not be as frenzied as it once was now that interest rates are rising, but for those looking for premiums in dollars, a slew of Chinese borrowers will be happy to oblige this year.
China’s commitment to reining in domestic financial leverage -- showcased by the appointment of de-risking champion Guo Shuqing to a top role at the central bank -- is making things tougher for high-yield borrowers. So they’re increasingly turning to dollar-bond issuance offshore.
"There will definitely be more supply of high-yield bonds overseas," said Gordon Ip, Hong Kong-based chief investment officer for fixed income at Value Partners, who manages a China-focused junk-bond fund that beat 98 percent of peers the past three years. While Ip says bigger supply means prices will probably weaken this year, returns should still be "decent," and he’s considering adding to his holdings of Chinese junk notes.
High-yield Chinese borrowers -- many of which are cash-strapped property developers -- issued $2.8 billion of notes in the two weeks through March 23, the biggest fortnight since a new-year rush of sales in January, according to data compiled by Bloomberg. Such securities may grow to account for 40 percent of Chinese corporate debt sales in dollars this year, up from less than one third in early 2017, according to Moody’s Investors Service.
Behind the rush overseas: a major crackdown on financial leverage at home, in an initiative that took on new urgency with President Xi Jinping chairing a Politburo meeting on the issue last spring. Guo Shuqing, who stepped up scrutiny of leveraged investments after taking the helm of the China Banking Regulatory Commission last year, now also oversees insurers and has become Communist Party boss at the People’s Bank of China.
"Guo was firm as the head of the CBRC in clamping down on shadow banking activities. His appointment may thus be viewed as a hawkish turn," Goldman Sachs Group Inc. economists wrote in a note to clients. The crackdown on shadow banking doesn’t necessarily mean Guo will be hawkish on broad monetary policy, though such restrictions do tend to tighten financial conditions, they wrote.
READ MORE: China Junk Yields Reach 7%, Hit Builders Seeking Dollar Debt
The push makes it all the tougher to map out refinancing plans for a record of $20 billion high-yield debt coming due in 2018. The initiative drove up the yield on three-year AA- rated corporate bonds, which are seen as non-investment grade by onshore standards, to a 2 1/2-year high of 6.82 percent in January, according to ChinaBond data.
"Curbs on shadow banking may be contributing to higher yields in the onshore bond markets -- such as by reducing demand for onshore bonds from wealth management products -- and therefore encouraging more issuance offshore,” said Sandra Chow, Singapore-based senior analyst at research group CreditSights. She said a boost in Chinese issuance presents one of the key risks to the Asian dollar bond market this year.
What’s also helped make issuing abroad more attractive is stability in the yuan, which in 2017 halted a three-year slump against the dollar. That makes it easier to service debt payments, though any surge in dollar sales that put pressure on the currency could in turn put officials on the alert. Newly installed PBOC Governor Yi Gang pledged over the weekend to open China’s capital account in an "orderly" manner.
Defaults could also trigger scrutiny.
"If a corporate did face a default, that would create significant reputational risk, which in turn could limit the cross-border funding channel for many Chinese corporates,” said Matt Jamieson, senior director and head of Asia Pacific research at Fitch Ratings in Sydney. "In that event, we will certainly see the government intervening to place higher restrictions on offshore issuance."
For now, the pipeline continues. Click here to see offshore bond sales by Chinese companies.
To contact Bloomberg News staff for this story: Tian Chen in Beijing at firstname.lastname@example.org, Narae Kim in Hong Kong at email@example.com.
©2018 Bloomberg L.P.
With assistance from Tian Chen, Narae Kim