China sovereign bonds: investors should ask tough questions
Investors seeking clarity on China’s debt market should demand transparency and premium when the sovereign launches its dollar deal
Opacity has long been China’s best defence. But this month, investors have a critical chance to get some much-needed clarity on what is happening in the country’s debt market and its beleaguered property sector — if they play their cards right.
Global markets have been rattled recently by China Evergrande Group — one of the country’s top home builders, but which is sitting on a huge pile of debt and struggling to meet its payment obligations both onshore and internationally.
Its apparent non-payment of dollar bonds over the past few days points to a potential widening of a debt-led crisis. It certainly doesn’t help that other real estate companies are also coming under pressure, with Fantasia Holdings defaulting on its obligations on Monday, while peer Sinic Holdings facing an imminent default later this month on a dollar bond.
Amid the chatter is news that the Chinese sovereign is plotting a return to the international debt market on October 19, with a $4bn four-tranche bond. Investors should use this opportunity to demand more transparency on the government’s plans to avoid a spiraling debt crisis.
China’s annual foray to entice global investors has usually been more of a chest-beating event, where the Ministry of Finance pulls off tightly priced deals, which in turn help its state-owned companies price their own bonds at tighter levels.
Yet, since the sovereign returned to international bonds in 2017 after a 13-year hiatus, all its offerings have got good traction, at least on paper. Its $6bn sale in October 2020 attracted $27bn in global orders, for instance.
But investors have told GlobalCapital Asia that apart from the huge demand-supply mismatch, the notes have stayed largely illiquid. The identity of the investors remains a mystery, with some suggesting many of the bondholders could be China linked take-and-hold investors.
Of course, in comparison to the US or European government debt, the yields on China’s bonds, while tight, are still attractive and find takers.
However, the investors shouldn’t forget the losses they are nursing, or may suffer in future, on China related credit. They also shouldn’t brush aside the fact that the stupendous growth of property developers — which are major issuers of offshore bonds — was fuelled by state-controlled policy banks directly or indirectly. A risk premium is now increasingly a must-have, rather than simply being nice-to-have.
Call for clarity
BondEvalue, a Singapore-headquartered fixed income focused fintech firm, estimates that $44.5bn got wiped out as mark-to-market losses from Asian dollar bonds during the third quarter ending September. The loss was more prominent in September as Evergrande began missing bond payments. BondEvalue, which operates the world's first fractional bond exchange, calculated the loss from about 6,000 of the 8,000 bonds under its universe.
Overall, investors could be sitting on even bigger mark-to-market losses. With China property-led defaults just starting to unravel — and which some fear could hit other sectors and the broader economy too — exposure to China certainly looks riskier.
Last week, Japan’s Government Pension Investment Fund said it will not include renminbi-denominated sovereign bonds in its $1.73trn portfolio, citing risks in the Chinese economy. The world’s largest pension fund’s action shouldn’t be ignored.
On its part, Beijing is trying to contain the risks through various indirect tactics. The government’s involvement in supporting Evergrande appears to be through state-owned entities that are seeking to buy the troubled firm’s assets. But global investors are unhappy over the absence of a proper explanation from either the government or the company. Reading snippets of information in state-run newspapers doesn’t quite cut it anymore.
There are also other pockets of worry — particularly in the off-balance sheet debt of Chinese firms.
Evergrande too has such debt. The company guaranteed a $260m 8.5% bond issued by a joint venture company that matured last Sunday. There is no official update on the repayment of these privately placed notes, which have triggered a cross-default. Many local government financing vehicles are also indebted and could struggle to balance their books.
Investors and analysts reckon Evergrande’s $300bn debt is big, but not enough to pull China down. But it does have the potential to shut out several borrowers from offshore bond markets.
The ball is now in investors’ courts. The sovereign is plotting a return to the debt market, but hasn’t officially announced the bank list on its transaction. When it does hold roadshows for its deal, fund managers should be prepared — to voice out their concerns, and demand a China risk premium.