* Risky shadow banking borrowers moving into bond markets
* House, regional govt finance firms’ private placements up
* Leveraged bond investment goods selling briskly
* Bond leverage sharply up, yield spreads down
By Nathaniel Taplin and Engen Tham
SHANGHAI, Nov 29 A year following China’s economic regulators squared up to the systemic perils of “shadow banking”, the threat is shifting to a booming corporate bond marketplace, and risky borrowers’ debt is finding its way into merchandise aimed at retail investors.
An opaque network of trust organizations and non-bank lenders had grown their annual market place to a hefty two.9 trillion yuan ($ 450 billion) in loans before regulators stepped in, spooked by increasing defaults on wealth-management goods (WMPs) backed by such higher-interest shadow lending.
Now the high-danger borrowers who took those loans, such as unlisted genuine-estate firms struggling with a stagnant house industry and financing organizations backing shoddy neighborhood government investment, are discovering a new avenue of funding following regulators began allowing unlisted organizations to situation bonds on public exchanges.
New corporate bond issuance leaped to 914 billion yuan in the third quarter, accounting for 29 % of all new credit, up from 381 billion yuan and just eight % in the initial.
And the profile of new borrowers appears strikingly like the patrons of the shadow banking set.
Of the 57 firms posting bond listing announcements in Shanghai in October, 23 had been local-government-owned project or infrastructure investment firms.
Beijing engineered the freeing up of the bond markets as a transparent alternative funding route, and the credit crunch that followed its clampdown on shadow banking guaranteed a high take-up.
But wealth managers are now turning these bonds into leveraged high-yielding merchandise and promoting them to investors desperate for returns right after a true-estate slump and summer stock-industry crash.
Information from CN Advantage, a analysis firm tracking wealth management sales, shows that 60 % of new bank wealth-management products (WMPs) had been linked to debt and income market instruments in September, up from less than half in the very first quarter.
High YIELD, HOT DEMAND
Demand is hot for these goods, and the higher the yield, the larger the risk, which is amplified if the fund’s assets are partly purchased on credit, or leveraged.
Colight Asset Management, a private fund offering bond-backed WMPs, raised far more than 40 million yuan in just four days in November from an eight.7 % yielding, 400 % leveraged bond-based item, according to buyer service staff member Chen Xun.
Significantly bigger companies such as Pacific Asset Management Co. and the Agricultural Bank of China also supply related high-yielding leveraged merchandise.
Investors, nonetheless, assume that items provided by huge names are reasonably secure.
“The danger of default is extremely slim,” mentioned a 45 year-old business manager in Shanghai surnamed Pan who invests in WMPs on an exchange backed by China’s second-biggest insurer, Ping An Group. “I’m sure such a massive organization as Ping An will make positive investors can get their money back.”
Inflows to bond mutual funds have also risen.
Standard of such funds is the Excellent Wall Extended Term Profit Gradated Debt Fund, whose leading 3 holdings are all sub-AAA-rated nearby government fundraising business bonds. The firm adds leverage by borrowing cheaply in the bond repurchase (repo) market, fund documents show.
“So for instance you can take two billion yuan of government debt as collateral and obtain 750 to 800 million of money, and use that to buy much more debt,” mentioned an underwriter at an international bank in Shanghai who asked not to be named.
About half the Excellent Wall fund’s 19 percent return given that late 2014 has accrued given that July, a period when repo transactions in Shanghai soared, and the spread of AA corporate debt yields more than Chinese treasuries fell 60 basis points to 4-year lows.
Analysts say the narrowing corporate threat premium combined with weakening profits is a red flag for speculative activity.
“Comparable to what happened in China’s stock market earlier this year, the rally of bonds is largely driven by liquidity situations and speculation that government will provide support when necessary,” said Zhou Hao, Senior Emerging Markets Economist at Commerzbank in Singapore.
Some industry professionals worry that these trends, enabled by regulatory reform, will create forces that regulators can not handle when industry sentiment turns, in an echo of the stock market place boom that preceded the summer season crash and a frantic series of heavy-handed interventions by Beijing.
“If, as seems likely, the government has succeeded in acquiring funding to greater danger sectors by relaxing bond approvals,” wrote Christopher Wood of brokerage CLSA in a current note, “it is all rather scary, given the regulatory failures exposed by the A share boom-bust cycle.”
(Further reporting by the Shanghai Newsroom and Samuel Shen Editing by Nachum Kaplan and Will Waterman)