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Tale of two bond markets: China onshore diverges as fears rise

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By Addison Gong, Rebecca Feng
26 Mar 2020

Chinese bond issuers are confronting a chaotic market at the moment: onshore yields for state-owned enterprises have fallen to historic lows, offshore yields have ballooned and more than 50 issuers have been forced to cancel deals this month. Rebecca Feng and Addison Gong report.

The fallout comes despite a surprising wall of bond issuance over the past two months. Chinese companies have sold more bonds since the beginning of February than they did in the same period last year, despite the clear damage the Covid-19 pandemic has done to the country’s economy.

Chinese issuers have sold Rmb507.2bn ($71.5bn) of company bonds, Rmb400.5bn of medium-term notes (MTNs) and Rmb877.1bn of short-term notes — the three bond types most used by non-financial issuers — since they came back from the Chinese New Year holiday on February 3. That marks a 68.9%, 32.7% and 61.1% year-on-year jump in the volume of the three bond types, respectively.

In March alone, new issuance volume of company bonds, MTNs and short-term notes surged by 45.3%, 38.8% and 16.2% year-on-year, Wind data shows.

How have issuers been able to raise so much funding despite the crisis? The answer is simple — many of them haven’t. The surge in issuance has come from the country’s highest-rated issuers, which have benefited from a flight to quality.

That has pushed down funding costs, too. The average three year and three month credit bond yields for triple-A rated issuers, for example, came down to 2.94% and 2.04% respectively on Wednesday, from 3.18% and 2.92% on March 2, Chinabond data shows.

China differs from most mature markets when it comes to ratings: on the mainland, even double-A issuers are seen as low rated. As a result, AA rated issuers, usually privately-owned enterprises (POEs) or lower-rated SOEs, have suffered from a continual increase in funding costs. They paid an average of 3.8% for three year debt at the beginning of February. By Wednesday, the cost had gone up to 5.3%.


‘Unreasonable lows’

The reduction in yields for central government-owned SOEs has surprised most bankers in China. To take one odd example, China Eastern Airlines, a central SOE, printed a 90 day transaction on March 10 at 1.54%. In the same week, China’s Ministry of Finance sold a 90 day central government bond at 1.59%, just 5bp higher.

Throughout March, central SOEs including China Cosco Shipping, Baosteel Group, and China Everbright Group have repeatedly been able to print short-term notes — bonds with a tenor shorter than one year — with interest rates ranging from 1.5% to 2%, Wind data shows.

“Their bonds were priced unreasonably low, to be honest,” said a DCM banker at a ‘big four’ state-owned bank. “They can probably still get a profit if they sell bonds then deposit the proceeds into banks.

“These central SOEs can be very aggressive in pushing down pricing,” he added. “Even big four banks are competing fiercely against each other to make them our clients, not to mention other commercial banks and securities houses.”

Not everyone is so lucky. Two privately owned enterprises, RiseSun Real Estate Development and chemicals producer Hongda Xingye Group, had to pay as much as 7% for their 270-day deals last week.

Even companies owned by regional governments have been forced to pay up. Shandong Commercial Group and Jiangsu Yueda Group paid more than 5% for 90 day bonds.

That may look attractive to some privately owned enterprises, which have largely been unable to print at short tenors. Investors tend to invest in commercial paper from top-rated credits only, treating it as a rate product more than a credit product. As a result, only one POE has successfully sold a 90 day bond since the beginning of February – Shanghai Juneyao Group. The air transport provider had to offer a 4.1% coupon rate on a 90 day transaction on February 6.

Many privately owned enterprises find themselves in a Catch-22 situation: without sufficient cash reserves to pay back commercial paper, they are unable to raise funds, said a state-owned banker. In other words, only the most liquid companies have access to more liquidity.


Pulling deals

The anxiety onshore has led to multiple pulled bonds. Wind data showed that, so far in March, Chinese issuers decided to pull 56 bonds totalling Rmb51.2bn. During the same period last year, 31 deals worth Rmb39bn were cancelled or postponed, following Rmb37.6bn in 2018. These deals do not include negotiable certificates of deposit (NCDs).

“Given the high uncertainty and potential volatility, issuers may wait and see, especially after the relatively high net bond issuance in the first two months of 2020 [compared] with the past five years,” a China-focused economist told GlobalCapital.

Most issuers have, unsurprisingly, blamed the cancellation or the delay of their deals on market volatility and have said they may pick another window.

But a few companies gave more detail. Yangzhou Green Industry Investment and Development Co, which pulled a Rmb500m 270 day bond on Tuesday, said there was not enough demand at the price guidance of 2.5%-3.2%.

The company had already changed the time for its bookbuilding from 9am to 3pm local time on March 24 to a close of 6pm on the same day, citing market volatility. It was also the second time Yangzhou had had to cancel the Rmb500m short-term deal, which was originally supposed to price on March 20.

The company sold a Rmb500m 270 day note in February at 3.44%, after extending bookbuilding by two hours. That deal had a Rmb830m book from 12 investors.

Huai’an Traffic Holding Co, which cancelled a Rmb1bn five year MTN on Friday last week, said it has made changes in its financing arrangements owing to recent volatility. Bookbuilding took place between 9am on March 18 and 5pm the next day, with price guidance at 4.2%-5.2%.

The issuer, a local government financing vehicle (LGFV), has also sold two bonds in the offshore market, most recently pricing a $300m 6% 2022 deal in September last year. Its $300m debut was sold in October 2016, with the same three year tenor. 

A debt banker pointed out that the rise in pulled bonds coincided with an increase in overall issuance volumes in the domestic market. Issuers felt the need to come out and fund after Covid-19 pressure eased and the Chinese New Year holiday ended, he said.

“There is pent-up desire among issuers,” the banker said. “And when you have more issuance, it is also likely that you see more failed deals, particularly in a weak market like this.”

The rise in total issuance was also, at least in part, aided by the shift from an approval-based system to registration-based, a change that applies to corporate bond issuance in both the interbank and exchange markets.

A credit analyst noted that onshore bonds issued between March 16 and March 20 topped Rmb743bn (including NCDs), already beating the all-time high weekly volume from the week before at Rmb704bn — of which only Rmb260bn was for refinancing. While many of the pulled deals came from LGFVs, these issuers were also among the most active in recent weeks, alongside financial and utility names.


Regional SOEs suffer  

The types of the pulled deals ranged from short-term commercial paper and medium-term notes to enterprise bonds. The vast majority came from non-financial corporates, but the likes of Huarong Securities and a few financial investment firms as well as leasing companies were also on the list. About half of the companies are rated AA and AA+, and the other half are rated higher at AAA.

Wind data showed that all the potential issuers of the pulled deals have some investment from the government, although mainly for local governments. But that doesn’t tell the whole story in a country where state ownership is as ubiquitous — and varied — as it is in China.

“A lot of the companies are, to some extent, state-owned, but that ownership could be very, very small,” said a credit analyst. “POEs may be more hesitant to come out just yet.”

While most pulled trades were by regional SOEs, including LGFVs, a few high quality names — including China National Chemical Corp and Aluminum Corp of China — were not exempt. Nor were property developers Greentown China Holdings and Huayuan Property Co. All four are also offshore issuers.

Beijing-based Huayuan, which has two bonds totalling $500m due in September and November 2021, was planning to use the pulled bond proceeds to repay a Rmb1.4bn 5.24% domestic bond due on April 27. One of the largest Chinese developers, China Vanke Co, announced at the end of February the cancellation of a Rmb2bn three year MTN to be issued on March 2.

Not many companies have been able to tap the offshore market for bonds in recent weeks either. “The influence the virus has had on the domestic economy is huge,” said a DCM banker at a big Chinese lender. “At the early stage of the outbreak, some Chinese companies were hoping to sustain themselves with overseas market demand, but now even those [hopes] are gone.” 

By Addison Gong, Rebecca Feng
26 Mar 2020