SENSEX NIFTY
Jun 08, 2012, 01.14 PM IST | Source: Reuters

China's first 'junk bond' market opens for business

The Shanghai Stock Exchange has begun issuing approvals for companies to begin issuing "junk bonds", as Beijing seeks to help cash-starved private Chinese firms find credit.

China's first 'junk bond' market opens for business

The Shanghai Stock Exchange has begun issuing approvals for companies to begin issuing "junk bonds", as Beijing seeks to help cash-starved private Chinese firms find credit.

A statement issued through the Shanghai exchange's microblog approved seven Chinese companies to issue high-yield bonds via private placements to qualified investors. The bonds may then be bought and sold - albeit under highly restricted conditions - on Shanghai's fixed-income trading platform.

Issuers, analysts and brokerages who spoke to Reuters were enthusiastic about the launch of the new trial programme.

"The new category of bonds offers us a new channel for capital operations," said Xie Hongbo, chairman of Beijing Ninestar Technology Co, an Internet service provider which is awaiting permission to raise 10 million yuanthrough 18-month bonds on the Shenzhen Stock Exchange.

"It will be quite easy for us to obtain funding that banks are typically reluctant to offer to us small companies."

Analysts expect about 4 to 5 billion yuan in high-yield bonds to be issued in 2012, growing quickly to around 100 billion yuan in the following year.

The market could house more than 300 billion yuan worth of outstanding high-yield bonds by 2015, they said.

An official at Beijing Hongyisifang Radiation Technology Corp, one of the seven firms approved by the Shanghai exchange on Friday, also expressed optimism. The company is preparing to issue 20 million yuan worth of 24-month bonds, he said.

Small and medium-sized firms, which generate around 80% of the jobs in China, frequently complain about difficulty in getting bank loans, which is driving some into the massive shadow banking system. State-run banks often channel the bulk of their annual lending targets straight to other state-backed firms.

A REAL HELP

Prior attempts by the central government to help the private sector raise money have produced inconsistent results.

Beijing recently encouraged banks to direct more money toward private lenders through a high-profile pilot project in Wenzhou, an entrepreneurial hothouse in Zhejiang province which has been hard-hit by the downturn in exports.

However, critics say the Wenzhou reforms are too limited and too localised to make a real difference at present.

The junk bond market may prove more helpful in the near term, analysts say.

For starters, the cost of capital will likely be lower. Unregulated lending rates in Wenzhou have declined since the pilot project was launched, but private borrowers were still paying interest rates near 22% as of May, according to official media.

The new junk bond market, on the other hand, looks to offer capital at a much better rate. Regulators have specified that the high-yield bond yields must not exceed four times the official benchmark interest rate, which now stands at 3.25% for one-year fixed bank deposits.

The paperwork will also be less burdensome. So far regulators have set no requirements regarding issuers' net assets or revenues, which is required for sellers of other types of debt. Nor is there any bond rating requirement at present.

GROWTH POTENTIAL

Brokerages and investors also stand to benefit from a broadening of the debt market.

Debt issuance by China's non-financial firms accounts for around 10% of total corporate financing, compared to 60% to 70% in mature economies. The result is an overdependence on informal and largely unregulated lending by private Chinese companies.

At the same time, investor appetite for higher-yielding corporate debt in on the rise. China's fund managers are hurrying to launch new high-yield bond funds.

Brokerages are also lining up to participate in on the underwriting side of the business.

"These bonds are long-awaited," said Liang Jing, a senior analyst at Guotai Junan Securities in Shanghai.

"All sides need the products: private firms for funding, securities institutions for asset allocation and the state for improving the depth of the market."

RISK-CONTROL

To be sure, the market is likely to get off to a slow start in the first few months as regulators test the waters.

Official have banned issues by finance and property firms, for example, and have ruled out retail investor participation. Issuers must hail from a list of six wealthy localities.

Investors are subject to strict conditions, as well, including a provision that they must have paid-in capital of no less than 10 million yuan. There can be no more than 200 qualified investors per tranche. Secondary trading will also be restricted within the same pool, although qualified investors can swap in and out.

There has been no mention of foreign participation.

"There will be a period of time for participants to feel out the new market, when both sellers and buyers will be cautious due to high costs of issuance and high risk of investment," said Li Jieming, bond analyst at Sealand Securities in Shenzhen.

"But demand from private firms to raise funds will be huge, as will demand from securities companies that want to allocate their investment toward higher returns."

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