Chinese New Bond Yield Gap Hides Debt Risks as Defaults Rise

As China moves toward a more market-based approach to determining the cost of money in its economy, one metric suggests corporate debt is going in the opposite direction.

Some 17% of company bonds in the first half were sold at yields at least 50 basis points below rates in the secondary market, according to data from China Chengxin International Credit Rating Co. That’s a jump from 9.9% in the second half of 2018. Globally, only the most in-demand issuers can raise funds in line with where their existing debt is trading; almost everyone pays a premium.

Analysts interviewed by Bloomberg said the trend shows the distorted credit risk pricing as cash-strapped firms turn to opaque ways to raise funds. One phenomenon is related to a practice known as structured issuance, where companies subscribe to their own offerings to inflate demand. It’s storing up more mispriced debt in China’s financial system, cutting against efforts to foster markets where funding costs correspond with a company’s prospects.

“A big yield divergence suggests the coupon rate of the new bond does not reflect the fair market value it is supposed to indicate, nor the actual risk of the debt,” Yang Hao, a fixed-income analyst at Nanjing Securities Co., said in an interview.

Regulators have been seeking to curb structured sales. Pan Gongsheng, deputy governor of People’s Bank of China, said China should improve its credit rating and risk pricing mechanisms to make hidden debt issuance cost more explicit, according to a Caixin report on Aug. 9.

The yawning gap can be seen in China Wanda Group Co. In July, the tire maker sold a three-year note with a coupon at 6.8%, according to bond issuance document on the Shenzhen stock exchange. Its three-year bond due July 2021 traded at about 15.5% that same day, showing a yield gap of more than 800 basis points, Bloomberg-compiled prices show.

Oceanwide Holdings Co., which printed a note at 7.5% last month, saw its similar bonds trading at a yield higher than 20%. Officers responsible for securities information disclosure at China Wanda and Oceanwide Holdings declined to comment when contacted by Bloomberg.