Chinese markets unfazed by prospects of Huatong bond default
Building firm says it may not repay a 400m yuan debt due this week, an event that has caused less concern than Chaori Solar's missed payment
What a difference four months makes. In early March, Shanghai Chaori Solar Energy Science & Technology said it was unable to cover 89.8 million yuan (HK$113.7 million) in interest payments, triggering the mainland's first domestic bond default and creating a minor panic.
Bank of America Merrill Lynch strategist David Cui described the event as a "Bear Stearns moment". Issuers pulled deals and the mainland's high-yield offshore property bond market went into a one-month hiatus.
Last week, the mainland got word of its second likely domestic bond default when Huatong Road & Bridge said it may not repay a 400 million yuan debt that comes due this week.
This impending default is arguably more serious than Chaori's. Chaori just defaulted on interest, whereas Huatong is threatening non-payment of interest and principal. The issuer is also clearly identified with the property sector, which is a mainstay of the mainland's offshore market, and one dogged by longstanding investor concerns.
The firm makes just over half its revenues from construction, and 15 per cent of revenues comes directly from property development. It also gets 15 per cent from coal mining, a sector even more stressed than property.
Christopher Lee, a managing director at Standard & Poor's, said the mainland's property downturn has hit builders' order books. "The cash flows of Chinese builders have been affected by slower payments by real estate developers as property sales have been weak since early this year and mortgage funding has been affected by tight credit conditions," he said.
China Lianhe Credit Rating said in a report published on June 27 that Huatong was suffering from cash-flow problems, linked to rising receivables and inventory. A rising number of mainland developers, mainly small players such as Zhejiang Xingrun Real Estate and the Guang Group in Guangdong province, are encountering cash-flow difficulties.
Nevertheless, the impending Huatong default has barely made an impact. The CSI 300 Index fell a negligible 0.6 per cent the day after Huatong posted an announcement on the Shanghai Clearing House saying it would not be able to pay back the debt.
The JACI China high-yield property index slipped 0.05 per cent.
Ivan Chung, a Moody's analyst focusing on Greater China, said investors perceive the event as company specific, and likely linked to the firm's July 11 disclosure that Huatong chairman Wang Guorui was "assisting" an official investigation.
Graft investigators have in recent times taken away a number of executives at mainland developers. The executives lose contact with their companies, affecting business operations.
However, this was not seen to be a systemic problem or one that could spread by some sort of contagion effect, which is investors' larger fear for the property sector.
At 400 million yuan, Huatong's debt is also small. Furthermore, the bond - technically, commercial paper - was traded in the interbank market, meaning it was only held by large institutions. Even a full write-down would cause hardly a flutter in these entities' balance sheets.
Chaori, by comparison, traded on the Shenzhen exchange, meaning its default impacted public investors, and the willingness by regulators to let the firm go bust was a much bigger statement about the new discipline ruling mainland credit markets.
Finally, Chaori was the first default, and was the first to force investors to adjust to the idea that government will allow defaults, and will not keep bailing out firms. Investors have fully priced that in. Huatong's default does not add much new information.
The prevailing view is that the Huatong default is what one should expect in the mainland's newly market-driven credit system. Authorities are slowly letting businesses go bust, starting with the smallest and most stressed, with authorities gradually acclimatising investors to the concept of default.
The next step will be for investors to take a bankrupt entity to court. With Huatong's debt fully held by institutions with the resources to take that step, it may serve as a good test case for that process.
"I'm interested to see how the banks and institutions will handle the recovery process. If they handle it efficiently, regulators will let more defaults happen," said Chung. "But if there is panic then maybe they won't."