As bond defaults become an accepted norm in China, Beijing is shifting its focus to what happens next.
China’s regulators are pushing to improve the debt restructuring process, currently notoriously opaque and protracted. Senior officials from bodies including the central bank and securities regulator this week urged that defaults be handled more efficiently and transparently, saying action is needed to restore investor confidence.
The stakes are getting higher, with corporate bond failures in China rising to a fresh record of more than 131.1 billion yuan ($18.7 billion) this year. While that’s encouraging better pricing of risk, the lack of a reliable system to clean up after a default has unsettled some investors and made them reluctant to provide financing to lower-rated companies.
“A large market like China’s will likely see more defaults each year. At a time like this, regulators may have realized the need to pay more attention to the issue of handling defaults,” said Qin Han, chief fixed income analyst at Guotai Junan Securities.
Guidelines jointly drafted by China’s central bank, economic planning agency and securities regulator will soon be released, the official Xinhua News Agency reported late Tuesday, citing Liu Guoqiang, a deputy governor of the People’s Bank of China. Watchdogs have already sought to unify the fragmented regulatory framework for corporate bonds.
Given its $13 trillion bond market is the world’s second largest, China has a disproportionately short history of defaults. Since the first onshore bond failure in 2014, Beijing has allowed more debt to go bad to instill stronger discipline in a market long accustomed to state-led bailouts.
That’s put bondholders in China on a steep learning curve - and they’re often finding themselves with little say in a murky restructuring process.
Opaque practices include prioritizing compensation for individual investors over institutional creditors, or offshore debt over onshore notes. Another strategy of concern to analysts is that some debtors are negotiating payment extensions with creditors privately instead of resolving their problems publicly through the clearing house. That makes it harder for onlookers to track what’s happening, and for other creditors to ensure they’re being treated fairly.
Due to the lack of guidelines, creditors are “totally on their own” when exploring different ways to deal with bond defaults, said Shen Chen, a partner at Shanghai Maoliang Investment Management LLP.
The new policies to be released by regulators should help, Shen said. “It’s a positive signal and the handling of defaults will be more orderly in the future.”
From China’s maiden default through the end of 2017, the recovery rate on publicly-traded bond failures was 38%, according to calculations by China International Capital Corp. as of September 2018. The rate dropped sharply to 17.4% for bonds that had defaulted before the end of 2018, based on the brokerage’s calculations in October.
For now, the surge in messy bond failures has made life even tougher for the country’s weaker borrowers: Chinese companies with a domestic credit rating of AA or below, the equivalent of the junk grade, have raised a net 105.9 billion yuan via public bond sales so far this year, the lowest level since 2008, according to data compiled by Bloomberg.
Last week, officials announced plans to impose consistent disclosure requirements for issuers, regardless of where their debt is traded. The current system - where bonds are traded on two stock exchanges and in the interbank market, with different rules for each venue and different regulators - was confusing to investors, analysts said.
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