China’s bond defaults are about to take a turn for the worse, with US$7.8 billion of debt due in 2020 in the offshore markets

A record pace of defaults hit China’s domestic bonds this year. In 2020, it could be the offshore market’s turn.

That’s because of a looming wall of dollar debt, issued by now-stressed borrowers, that comes to maturity. There’s US$8.6 billion of offshore bonds coming due next year that currently have at least 15 per cent yields – classifying them as stressed, according to data compiled by Bloomberg.

Put another way, nearly 40 per cent of total outstanding corporate dollar bonds from China’s most troubled companies is due next year. With Chinese policymakers emphasising the need to continue a campaign to limit leverage, it suggests a pickup in defaults. For those lured by juicy yields in today’s low-rate universe, that means danger.

“This is a market where you want to go for safer bets rather than be a hero,” said Michel Lowy, chief executive officer at Hong Kong-based SC Lowy, which specialises in fixed income. “We are on the verge of a massive snowball effect,” where defaults spur funds to take money out of high-yield debt, driving up yields and making it all the harder for firms to refinance, he said.

Lowy advises sticking with companies with strong cash flows.

Trouble is, a swathe of the borrowers with debt due next year lacked strong fundamentals, and took advantage of unusually sweet financing conditions back in 2017 – the year of the synchronous global expansion. That’s according to Wonnie Chu, managing director of fixed income at GaoTeng Global Asset Management.

“A lot of them were issued with a low interest rate not comparable to the credit risk,” she said. Chu predicts a full-blown shock will be avoided as enough investors have already begun to anticipate problems.