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China’s defaults on state-owned companies raise concerns in bond markets



A man who counts 100 banknotes, Chinese currency.

Sheldon Cooper SOPA images LightRocket via Getty Images

SINGAPORE – A series of overdue defaults involving state-owned companies in China – usually a safe choice for investors – rocked the credit market and shook investors, leading to a bond sale last week.

As bleeding continues to show signs of default, observers are discussing why more state-owned enterprises (SOEs) remain cold this time than in the past two decades and what market segments, if any, whether the government will choose to support.

Last week, state miner Yongcheng Coal and Electricity defaulted on 1

billion yuan ($ 151.9 million) in bonds, prompting an expanded state investigation into three banks taking orders suspected of misconduct.

Other major arrears followed this week, including government-backed chip maker Tsinghua Unigroup, which failed to pay after failing to extend a payment deadline, and another default by the state-owned Huachen Automotive Group, BMW’s Chinese joint venture partner. Last month, one of China’s largest real estate developers, China Evergrande, also came under the spotlight as reports that there were problems with the crisis.

“The [Yongcheng] The default has raised investor concerns for the entire corporate bond market, as it violates the long-standing assumption of an implicit state guarantee for SOE bonds, “ANZ Research economist Zhaopeng Xing wrote in a note on Friday. The first default percentage for less than 1%, compared to a 9% default rate by private companies, according to ANZ.

Defaults by state-funded companies in China have been rare until recently. At the end of last December, the case of default on dollar-denominated bonds by commodity trader Tewoo Group was the first in two decades.

There are more defaults as Chinese authorities focus on reducing the indebtedness of state-owned enterprises now that the worst of the pandemic is over.

Chang Li

S&P global ratings

These defaults are coming, even this year many asset managers embracing Chinese debt are pushing for investments in Chinese bonds. They offer a very attractive offer to investors with their returns – far higher than American or European – in a world where it is increasingly difficult to achieve.

China’s land-based bond market is worth $ 13 trillion, the world’s second-largest.

So far this year, investors have accumulated them. Foreign inflows into Chinese land bonds through funds peaked at an annual high of $ 21.43 billion in March, up from $ 9.5 billion at the end of last year, according to Refinitiv. High-yield bonds in Asia iShares Barclays USD rose 31% from the level in March.

Here are what analysts see as some factors that play a role in the recent package of defaults involving Chinese state-owned enterprises.

Recovery from the pandemic

Chinese government may be more likely to accept default as economy recovers from pandemic combined with his desire to reduce debt in the economy, a note from S&P Global Ratings said on Tuesday.

“More defaults are occurring as Chinese authorities focus on reducing the debt of state-owned enterprises now that the worst of the pandemic is over,” said Chang Li, a Chinese state specialist at S&P Global Ratings.

Beijing was in the process of reducing debt with rising debt in the country, but held on until the pandemic affected businesses. Instead, the authorities encourage banks to approve more loans for small and medium-sized businesses. But now debt is rising again as the pandemic puts business under pressure – prompting authorities to refocus on reducing debt.

“In our view, the sell-offs, which are sharper for domestic than foreign bonds, reflect the potential willingness to allow even large SOEs to be the default,” the note added.

The market may take this as a signal that debt reduction and SOE reform will accelerate as the economy recovers from the pandemic.

Chang Li

S&P global ratings

S&P noted the example of state miner Yongcheng Coal and Electricity – who missed the bond payment, which was due on November 10. This could lead to cross-compliance by the parent company Henan Energy and Chemical Industry, one of the largest companies in Henan Province, it said. Together, this puts 50 billion yuan ($ 7.6 billion) at risk of default, according to the rating company.

S&P described the “seemingly abrupt abolition of state support” in the case of a miner. Just a month before it failed, the rating company said Yongcheng was believed to replace the losing chemical business with a profitable coal business. It also just issued a medium-term 1 billion yuan banknote in October.

These actions together were perceived as “signs of state support”, according to S&P.

“We think, [Yongcheng]The missed payment surprised the market, as it showed that the attitude of the local government to provide support had reversed in just one month, “Lee said. The market may see this as a signal that debt reduction and SOE reform will accelerate as the economy recovers from the pandemic. “

Opportunity to weed out the bad?

The Chinese government is allowing some of the companies “with very weak credit matrices to pass without rescue,” said Tang Min Lan, head of the investment office at UBS Global Wealth Management.

But that’s actually a positive thing, she said, suggesting it allows some “differentiation” in the Chinese market between stronger and weaker companies.

“We’ve been saying for some time that increasing credit differentiation is actually positive for the long-term development of the Chinese market. Now, if you just relax 2 years ago, there’s no complete differentiation because there are no defaults,” she told CNBC Squawk Box Asia. on Wednesday.

The pandemic is straining financial resources

The coronavirus pandemic has strained public resources as the government has taken incentives to support businesses amid the consequences.

The impact is probably being felt now.

“Pandemic and increasingly stringent regulations by central governments may limit the power of local governments to coordinate financial resources and even the willingness to provide support,” said S&P Global Ratings.


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