Crisis Risk Flagged by Haitong as Debt Snowballs: China Credit

Jan 07, 2014 11:29 pm ET

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Jan. 8 (Bloomberg) -- China’s second-biggest brokerage said record debt threatens to trigger a financial crisis as borrowing costs jump to unprecedented highs despite a cooling economy.

Liabilities at non-financial companies may rise to more than 150 percent of gross domestic product in 2014, raising default risks, according to Haitong Securities Co. The ratio of 139 percent at the end of 2012 was already the highest among the world’s 10 biggest economies, according to the most recent data. That compares with 108 percent in France, 103 percent in Japan and 78 percent in the U.S., figures from the Bank for International Settlements and the World Bank show.

“We are concerned that the debt snowball may get bigger and bigger and turn into a crisis,” Li Ning, a Shanghai-based bond analyst at Haitong Securities, said in an interview on Jan. 3. “Default probabilities from next year may rise because more and more Chinese companies depend on new borrowings to repay old debt.”

Premier Li Keqiang has driven up money market rates to help deleverage the economy, as Moody’s Investors Service warned this week that credit expansion could spark a financial crisis. Companies must repay a record 2.6 trillion yuan ($430 billion) of borrowings this year even after bond yields surged and economic growth slowed to the weakest in more than a decade.

The rate on AA- rated five-year notes jumped 146 basis points in the past year to a record 8.3 percent. That compares with 3 percent on corporate notes of all grades globally, according to Bank of America Merrill Lynch indexes.

Crisis Risk

China’s aggregate financing, the broadest measure of new credit, climbed 14 percent to 16.1 trillion yuan in the first 11 months of last year from the same period in 2012, central bank data showed. Total debt of publicly traded companies in China and Hong Kong has surged to the equivalent of $1.92 trillion from $607 billion at the end of 2007, according to data compiled by Bloomberg.

“What concerns us most is the sharp increase in credit since the global financial crisis,” Tom Byrne, head of the sovereign risk group in Asia at Moody’s Investors Service, said in an interview on Jan. 6. “If credit continues to grow at such a rapid pace, then what China faces is either a financial crisis or a bust, in which flows of credit will be disrupted and the trend of growth will be sharply reduced.”

Bad Borrowing

The seven-day repurchase rate, a gauge of interbank funding availability, has averaged 4.7 percent this month, the second highest since June, according to a daily fixing rate announced by the National Interbank Funding Center. The yuan climbed 0.02 percent to 6.0512 per dollar yesterday.

A total of 31.2 billion yuan of planned bond offerings were scrapped or delayed since the start of December, according to Bloomberg-compiled data. Aluminum Corporation of China Ltd., the nation’s biggest producer of the metal, said on Jan. 3 it postponed a 2 billion yuan note sale, according to a statement on the Chinamoney website.

The People’s Bank of China suspended reverse-repurchase agreements, which it uses to inject money into financial markets, for almost three weeks in December, the longest pause since July. The central bank’s curb on money supply shows it is trying to slow debt expansion by pushing up borrowing costs, according to Shi Lei, head of fixed-income research at Ping An Securities co., a unit of the nation’s second-biggest insurance company.

Missed Payments

“It’s a deleveraging campaign led by the central bank,” Shi said. “If monetary policy remains tight, it will result in more debt defaults, starting from private enterprises or regional state-owned companies.”

Jilin Cheng Cheng Group Co. said on Dec. 30 it missed timely payment on the principal of 100 million yuan of loans, according to a statement to the Shanghai Stock Exchange.

China’s Cabinet imposed new controls on the multi-trillion- dollar shadow-banking industry with an order that targets off- the-books loans and shores up enforcement of current rules, three people familiar with the matter said this week.

Chinese banks’ outstanding lending climbed 14 percent to 71.41 trillion yuan as of the end of November from a year earlier, central bank data showed. The pace of expansion is down from 34 percent for the same periods in 2009, 20 percent in 2010 and 16 percent in 2012.

The moderating speed of bank credit growth helps mitigate against the risk of a crisis, according to Moody’s Byrne. “Our concerns largely lie with the spillover effects of a deterioration in asset quality in the shadow-banking system on the banks’ balance sheets.”

‘Blindly Borrowing’

The National Development and Reform Commission, China’s top planning agency, said on Dec. 31 that local-government financing arms that face funding shortfalls in construction projects will be allowed to issue bonds to help roll over their debt.

“The NDRC statement may help prevent defaults in the short term, but on the other hand, it may encourage LGFVs or other companies to borrow more rampantly,” said Liu Dongliang, a senior analyst at China Merchants Bank Co., the nation’s sixth- biggest lender. “They may take it for granted that the government will provide support if they get into trouble.”

Local-government debt swelled to 17.9 trillion yuan as of June, compared with 10.7 trillion yuan at the end of 2010, according to data compiled by the National Audit Office.

The yield on AA- rated five-year corporate bonds climbed four basis points this month, according to Chinabond, the nation’s biggest debt clearing house. The rate on the benchmark five-year government bond rose six basis points to 4.52 percent, putting the gap at 378, near the highest since 2012.

China’s leaders pledged in November to allow market forces a “decisive” role in the allocation of resources.

“If the current model of blindly borrowing money and spending in low-efficient industries continues, there will be a debt crisis sooner or later,” said China Merchants’ Liu.

--Judy Chen. Editors: Andrew Monahan, Sandy Hendry