Moneycontrol
Jul 13, 2017 07:12 PM IST | Source: Moneycontrol.com

Chinese central bank’s $53 bn bonanza eases default fears from junk bond issues

This injection of liquidity by the central bank will let many market experts heave a sigh of relief, since they had been growing increasingly concerned about the default risk being posed by issuers of bonds, particularly of the “junk” variety.

The People's Bank of China on Thursday injected USD 53 billion into the banking system through its medium-term lending facility, thereby signalling to market participants that the regulator is easing up on its fierce deleveraging campaign, which has been causing unrest among lenders in recent times.

The Chinese central bank has been tightening liquidity in the system ever since President Xi Jinping told the politburo in April that financial security would be a top policy priority this year. The banking regulator also started a regulatory crackdown on excessive borrowings by corporates through bonds and from banks.

This injection of liquidity by the central bank will let many market experts heave a sigh of relief, since they had been growing increasingly concerned about the default risk being posed by issuers of bonds, particularly of the “junk” variety.

Chinese junk bonds have been attracting a lot of investor interest of late, causing yields on these bonds to fall to their lowest in over 3 years. Issuers are coming out with more issuances and investors are lapping it all up.

In June alone, non-bank companies with domestic credit ratings of AA or lower issued yuan-denominated bonds worth 24 billion yuan, over 3 times more than in May.

This has caused some concern among market experts, who reckon that investors are betting on riskier assets at the wrong time, since an increased number of Chinese companies are expected to run into debt repayment problems in the second half of the year.

So, why these junk bonds rallying?

Ever since the number of defaults by Chinese companies significantly dropped in the second quarter and since money market rates in China have declined, investors are on the lookout for instruments with higher yields.

As a result, they have been buying bonds issued by companies with a rating of AA or lower, thereby pushing yields on these bonds down. In fact, the difference between the yield on AAA-rated and AA-rated Chinese onshore paper has gone down to below 150 basis points, its lowest in over 3 years.

However, experts believe that the party won’t go on for much longer. Hidden debt risks in China’s economy have been coming to light of late, particularly those pertaining to cross-guaranteeing of debt.

In fact, as recent as the last week of June, a chemical manufacturing company located in the Shandong province of China had trading in its bonds suspended because of some uncertainty surrounding its operating performance. This resulted in a sell-off of a neighbouring company’s dollar-denominated bonds, since the latter had guaranteed the former’s debt.

Since these guarantees of debt are not a part of either company’s balance sheet, there is no knowing the extent of cross-guaranteeing unless something like this happens. Earlier this year, these same concerns caused a sell-off in corporate notes of companies belonging to the Shandong province.

In addition to this, the junk bonds also face the challenge of maturity, as a record amount of these bonds are due to mature in the second half of this year. According to data compiled by Bloomberg, Chinese lower-rated companies have to repay as much as 90 billion yuan of bonds in the second half of the current year.

Market participants are of the view that the Chinese government will step in at some point, reiterating its position against excessive borrowing. They also believe that general monetary easing is unlikely to happen in the immediate term, which will also put pressure on bonds.
Sections
Follow us on
Available On