Bond Investors Are Skittish Over Chinese Property Developers
Prices, Volume Have Fallen After Reports of Potential Defaults
20 March 2014
By Fiona Law
Growing worries over the health of Chinese property developers are driving down bond prices and drying up trading volumes in the $47 billion market that had been a favorite of global investors.
Some of the most poorly rated bonds aren't trading at all, say fund managers and analysts. Some have fallen up to 7% this month. The yield on a five-year dollar bond issued by Evergrande Real Estate Group Ltd. , a debt-laden Guangzhou-based home builder, has risen to 11% from 8% at the end of last year.
"The thin liquidity in market has exaggerated bond-price movements," said Pheona Tsang, head of fixed income at BEA Union Investment Management Ltd. in Hong Kong, with $6 billion in assets under management. There is a "negative atmosphere surrounding China."
Property developers had until recently been flooding the market with record dollar-denominated bonds sold in Hong Kong and Singapore, with international money managers snapping up the high yields on offer. Even this year, $15 billion worth of bonds were issued by Chinese developers, mostly in January. That accounted for 40% of global real-estate bond sales, according to data provider Dealogic.
But the markets have been spooked over reports of potential defaults by developers, while tighter credit conditions across China and slower mortgage approvals are set to hurt sales for real-estate companies.
The unexpected move lower in the yuan also has boosted worries of a bigger debt burden of these developers, which make money in the Chinese currency and have to repay debt in U.S. dollars.
The sudden drop in bond-market liquidity has widened the difference between the prices that buyers and sellers are willing to take, known as the bid-ask spread, leaving some fund managers reluctant to sell because of the large discount they would need to take. Traders say the gap is as wide as 2 percentage points in some bonds now, from 0.5 percentage point two months ago.
"Fund managers are reluctant to offload property bonds...unless they face clients' redemption pressure," said Thomas Kwan, head of fixed income at Harvest Global Investments Ltd., which manages $55 billion worth of assets. "The trading volume remains pretty thin that even if I want to buy on dip, it's hard to find much supply in the market."
Big fund managers are staying on the sidelines, while wealthy individual investors who have bought through private banks also are tending to hold instead of selling, and realizing losses. Even for those determined to sell, the lack of trading is leading to lengthy times to execute trades.
"Normally if someone needs to sell $5 million worth of dollar bonds, it could be done within a few minutes after talking to a couple brokers. But now it's taking a whole afternoon for the same $5 million transaction," said Gordon Ip, fund manager at Value Partners Group, with $10.3 billion in assets.
There is no objective gauge of transaction volume of these bonds as they are changing hands over the counter, via the phone, email and other broker networks, instead of on exchanges. Manjesh Verma, head of Asia credit desk strategy at Credit Agricole in Hong Kong, estimates trading volumes are down as much as 30% from a few weeks ago.
Stock prices of these developers also have registered a hefty drop. Country Garden, a major developer based in the large southern city of Guangzhou, has plunged 31% in a week after its softer-than-expected earnings and forecast. By contrast, its 10-year dollar bond lost less than 8% in value.
It is a reversal from last year, when property bonds outperformed most peers, embraced by investors hunting for the high yields and as the housing market in China boomed with soaring prices and sales.
The most recent scare came this week, with property developer Zhejiang Xingrun Real Estate Co. saying it was unable to repay almost $600 million of loans, marking a large default for a real-estate firm. That combined with a sharply slower rise in February home prices. The Crimea crisis and capital outflows in emerging markets also added to the bearish sentiment surrounding risky assets, including high-yield bonds in the region.
"People are not outright bearish, as onshore defaults are contained and almost all offshore issuers have stronger fundamentals," said Value Partner's Mr. Ip.
Though the worry is "it's only the tip of the iceberg, with small companies' default coming in a large scale," said Charles MacGregor, head of Asia at Lucror Analytics, an independent credit research house. "That will create a bunch of nonperforming assets sitting at local banks' book, which will restrict bank funding available to even the good developers."
Bargain-hunting is seen in some better-quality bonds. But "in the short term there will be some more pain. If there are more default cases, especially some medium-sized default, there'll be reasonably big contagion effect," said Credit Agricole's Mr. Verma.