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China keen to boost its ‘black sheep’

(ATF) China’s new securities law appeared to have a large hole – it lacked straightforward guidance on bonds, especially corporate bonds. And that is why many in the bond sector are calling for a separate law on bond issuance and trading.

Corporate bonds have been black sheep of China’s bond market, often falling into default and tarnishing the image of the country’s 19-trillion yuan bond system – now the second largest in the world.

However, top banking officials are keen to remedy this situation.

On March 11, China’s central bank and the China Securities Regulatory Commission said their next step in improving the country’s financial system would be increased support for private enterprise bonds – and creating a better environment for companies that want to launch bond issues.

“In 2019, most of the default entities in credit bonds were private enterprises,” Pan Xiangdong, chief economist of New Times Securities told the Securities Daily. “So, the market’s appetite for private enterprise bonds went down, which led to significant differentiation in the credit spread between private enterprises and state-owned enterprises in the bond market. In 2019, the volume of funds went went into private enterprise credit bonds was negative (less than the previous year).”

But this year the credit environment has improved and there is more liquidity, so net financing of private enterprise credit bonds has begun to improve, and the net volume of funds has risen to a positive level.

WIND data shows that as of March 9, the CSI All-Bond Index had risen 2.7% this year, much higher than the same period over the past two years. China Construction Bank believes that domestically, the negative impact of the epidemic on the economy is still in its infancy, and the bond market as a whole is improving. Overseas, the epidemic has affected the global economic fundamentals to a certain extent, and the role of bond asset allocation is more prominent.  

Yin Ruizhe, chief bond analyst at China Merchants Securities, told the Securities Daily that financing policies have been issued frequently since the second half of 2018 to try to protect private enterprises, but there had not been much improvement in the state of private market borrowing in the open market. However, the situation this year was very different. The scale of private companies issuing bonds was similar to the previous period, but volume of financing this year was better.

Bio and pharmaceutical companies leading a big surge

Data from Oriental Fortune Choice shows that, as of March 12, private companies have issued 166.48 billion yuan in debt finance, an increase of 25.75% over the same period last year (that figure excludes the banking and non-banking financial industries). 

And amid this, the financing of private corporate bonds in the pharmaceutical and biological sector (Shenwan Tier 1) has grown significantly. Since the beginning of this year, the total amount of pharmaceutical-bio private corporate bonds reached 14.27 billion yuan, an increase of 156% over the same period last year.

“The epidemic did not have an impact on the financing of private enterprise bonds. It mainly relied on the support of epidemic prevention and control bonds,” Yin Ruizhe said.

In fact, nearly 30% of the bonds issued by private companies this year were Covid-19 epidemic prevention and control bonds. These issues can be used to get new loans to pay back old debt and guarantee companies’ short-term debt, as well as boost the allocation needs of leading private enterprises.

However, epidemic prevention and control debt is not suitable for long-term success. A short-term improvement in company funding cannot be expected to last in the medium term. So, the follow-up situation remains unclear.

Pan Xiangdong said the maturity scale of private enterprise bonds in 2020 will be 1.26 trillion yuan – a large amount – and during the epidemic, the conditions that private companies had to operate under were not good, particularly in the manufacturing and consumer sectors. So, the bond market still needs to work hard.

Prior to this, many departments provided documents to back private enterprises wanting to issue bonds. These included “Opinions on Creating a Better Development Environment to Support the Reform and Development of Private Enterprises” issued by the CPC Central Committee and the State Council on December 22, 2019. On February 19 this year, the central bank issued a “Report on the Implementation of China’s Monetary Policy in the Fourth Quarter of 2019” which also offered olive branches to the corporate bond sector.

Credit risk mitigation, evaluation mechanisms

Pan Xiangdong said that the CRMW – a credit risk mitigation certificate, which is a tool to protect credit – needs to be improved if the government wants to boost company bonds. Authorities also need to support firms temporarily when they get into difficulty.

The bond market is technologically competitive for private company bonds financing, but it needs to be simplified. There is also a need to reduce credit spreads and private companies’ financing costs through means such as guaranteeing credit, and reducing their exposure for any breach of contract.

There was also a need to improve supervision and evaluation mechanisms, such as ratings. To improve the incentive for private companies to issue bonds, it was recommended that a certain percentage of private companies’ debt issuance assessment be given to leading securities firms and issuing institutions.

Yin Ruizhe said that to increase support for private firms’ bond financing should be rationalized, to boost the risk appetite of institutional allocations. Support for the Credit Risk Mitigation certificate should be encouraged. CRMW is similar to buying “insurance” for the corporate bonds. If there is a default, the institution that created the issue can pay investors some returns.

However, due to the lack of a large sample of historical default data, CRMW prices are generally expensive. Therefore, while encouraging CRMW issuance, reasonable pricing is also key.

On the other hand, encouraging companies to increase guarantees when issuing bonds is also conducive to reducing institutional investors’ risks and increasing allocation preferences. To achieve this, it is necessary to start with a functioning guarantor industry and to reduce the discrimination against private corporate bonds by guarantors.

It is hoped these new measures will be applied alongside the new bond registration system, and that corporate bonds will no longer be looked down on in China’s bond markets.

Source: Securities Daily 

Chris Gill

With over 30 years reporting on China, Gill offers a daily digest of what is happening in the PRC.


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