China’s new but rapidly growing securitization market faces a potentially pivotal point in its development amid fears of an economic slowdown and a number of high profile defaults at state owned enterprises (SOE).
The spike in defaults at SOEs since April 2015, when power equipment maker Baoding Tianwei missed a $14m interest payment, has brought China’s booming domestic collateralised loan obligation (CLO) market under scrutiny, but has provided foreign issuers a big opportunity.
The CLO sector represents the largest chunk of the nation’s securitization market, but as domestic investors re-evaluate the riskiness of unsecured loans to SOE companies — historically taken for granted as riskless, given the state backing — issuers of consumer asset-based securities (ABS) from abroad stand to benefit, especially given China’s transformation into a consumption driven economy.
China’s overall securitization market exploded in 2015 with RMB600bn ($19bn) in new issuance — double that of 2014, according to Fitch Ratings.
But most of it was in the form of CLOs, whose dominance is expected to wane in coming years. That is in part because, unlike the US leveraged loan market, Chinese CLOs are often highly concentrated, backed by unsecured loans, bereft of an efficient secondary market, and lacking in transparent reporting standards.
But Chinese investors had regarded many of the underlying credits as riskless, being state owned. That perception is changing rapidly.
BUILDING UP ABS
As a result, domestic investors are turning to foreign credits, and in particular, ABS structures. Though high corporate debt levels are seen as a threat to China’s economic growth, consumer debt levels are considerably low compared to the US, for example, and demand from that sector is expected to keep growing. And since China introduced new data transparency and standardisation regulations in 2015, consumer ABS is looking like a much more dependable alternative.
Ford, a regular issuer of Chinese auto loan ABS, has enjoyed ever cheaper funding costs in that market as domestic investors become more and more comfortable with the asset class. Last week, the carmaker offloaded RMB2.98bn ($458m) of auto loan-backed paper at a significantly tighter spread than its previous deal.
Indeed, companies like Ford are banking on their ability to expand their ABS programmes in China to fund increasing loan demand.
“Since the car boom, car makers are focused on financing existing stock,” said Commerzbank’s head of investment banking Michael Reuther.
Since the People’s Bank of China launched a shelf registration scheme in 2014 making it easier for issuers to come to market repeatedly, 13 banks and finance companies filed 17 programmes on the country’s public placement market allowing them to issue Rmb431bn ($65.5bn), according to Fitch.
That included the China units of four major international carmakers, who last year contributed significantly to the $6.4bn equivalent in Chinese auto loan deals.
Only 13% of those programmes have been drawn down, implying a huge potential pipeline.