Buyers beware: China’s property bonds face the highest risk of default among borrowers in 2018

Chinese builders face a record US$31 billion of onshore and offshore bond maturities this year, which may more than double if put options are exercised, Bloomberg’s data show.

PUBLISHED : Thursday, 04 January, 2018, 1:05pm
UPDATED : Thursday, 04 January, 2018, 1:05pm

Bonds from China’s property developers face the biggest risk of default in the nation’s domestic debt market as the government’s funding curbs strain their finances, according to a survey of analysts and traders.

Ten out of 15 respondents in a Bloomberg survey late December see some payment failures among developers this year. Most predict yield spreads on corporate bonds that surged to four-year highs in 2017 to climb more. Builders are most vulnerable as they face policy risks with authorities restricting their funding to cool housing prices, according to China Merchants Bank.

Chinese builders face a record US$31 billion of onshore and offshore bond maturities this year, which may more than double if put options are exercised, Bloomberg’s data show. Fundraising curbs have hurt their ability to sell bonds in the domestic market, with onshore note issuance plummeting 67 per cent in 2017.

“The property sector faces huge bond repayment pressure in 2018,” said Qin Han, chief bond analyst at Guotai Junan Securities in Shanghai. “That combined with restrictive refinancing channels could lead to tight liquidity at those firms and hence potential defaults.”

Qin said the defaults are more likely to happen with small regional developers. The Shanghai Stock Exchange raised the threshold for China’s property developers to sell exchange-regulated notes, people familiar with the matter said in late 2016. Accelerated new home price gains in November points to persistent price pressures and the likelihood that cooling measures will remain.

Interestingly, the sector could also be a “gold mine” if one knows how to find undervalued bonds, said Li Liuyang, an analyst in Shanghai at China Merchants Bank. There may be good opportunities within developer bonds because the government curbs could lead to overselling in some of the securities, he said.

Broadly, survey respondents expected the yield premium on domestic corporate bonds to continue rising in 2018. All but one participant predicted credit spreads will widen, while most projected the premium to climb by less than 50 basis points. Four forecast a jump of 50 to 100 basis points.

Impacted by China’s clampdown on financial market leverage, the spread on the nation’s five-year AAA-rated corporate bonds jumped 48 basis points in 2017 to 158 basis points at the end of last year, the highest since April 2014, according to ChinaBond data. The premium hit 161 basis points on Wednesday. The tighter liquidity that sparked a jump in money-market rates is likely to remain in place this year, according to China Merchants Bank.

“Monetary policies are unlikely to loosen in 2018, especially when authorities focus on financial market risks,” said Li at China Merchants Bank. “Investors are cautious and pessimistic about the onshore bond market in 2018.”

A record 702 billion yuan (US$108 billion) of domestic bond sales were scrapped last year following a surge in yields, which led to the lowest net corporate bond issuance in a decade. The tougher funding environment combined with corporate specific factors claimed at least 24 local bond defaults in China last year, near the record 29 reached in 2016, Bloomberg’s data show. Some 11 out of 15 respondents expect defaults to rise slightly in 2018.

“More risks will be exposed in 2018 as the government focuses on defusing financial market risks,” said Wang Yifeng, a Beijing-based analyst at China Minsheng Banking’s research institute. “I expect defaults to increase slightly in 2018.”

The participants in the Bloomberg survey included China Minsheng Banking, U-Shine Fund Management, Hengfeng Bank, China Merchants Bank, Guotai Junan , Lianxun Securities, SDIC Essence Futures and Nanhua Futures. Seven traders and analysts asked not to be identified as they are not allowed to comment publicly on the matter.