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After two weeks of relentless losses, China Huarong Asset Management Co. bondholders are finally finding reasons for optimism.
Huarong bonds jumped after China’s financial regulator said on Friday that the bad-debt manager was operating normally and had ample liquidity, its first official comments since the company jolted Asian credit markets by missing a deadline to report earnings on March 31. While the regulator’s statement was hardly a full-throated pledge of government support, it was enough to cement a rally in Huarong bonds from record lows and ease fears of contagion. The gains continued on Monday.
One of the state-owned company’s dollar bonds — a 3.375% note maturing in May 2022 — climbed to about 89 cents after trading at 65 cents on Wednesday, according to prices compiled by Bloomberg.
The rebound suggests investors have become less concerned about extreme scenarios like bankruptcy. Yet questions remain about the extent of Beijing’s support as Huarong tries to overhaul its business.
The company, controlled by China’s Ministry of Finance, has been mired in scandal since its former chairman Lai Xiaomin was accused of bribery in 2018 and executed earlier this year. Under Lai, Huarong moved beyond its original mandate of helping banks dispose of bad debt, raising billions of dollars from offshore bondholders and expanding into everything from trust companies to securities trading and illiquid investments.
If China decides to impose losses on Huarong bondholders in a debt restructuring, it would be the nation’s most consequential credit event since the late 1990s and the clearest sign yet that Beijing is serious about reducing moral hazard in its $54 trillion financial industry. But if Huarong continues to meet its obligations, the company’s bonds could end up delivering a windfall to investors who bought after prices plunged this month.
“The fact that a regulator finally said something should give the market some confidence,” said David Loevinger, a former China specialist at the U.S. Treasury and now a managing director at TCW Group Inc. in Los Angeles. “The amazing thing is like many investors, if you asked me a month ago, what is the risk of Huarong restructuring its debt, I would have said close to zero. Even though I still think it’s unlikely, the risk is no longer zero.”
In a statement late Friday, Huarong said it will accelerate disposal of existing risks and keep focusing on its main business of non-performing loans. Huarong said it’s working on its full-year earnings report with its auditor and will disclose it at an appropriate time.
Investors will be keeping a close eye on the company’s near-term debt payments for any signs of stress.
Huarong’s onshore securities unit said on Monday it had wired funds to fully repay a local bond due April 18. Reports that Huarong has prepared funds to pay a S$600 million ($450 million) bond due April 27 helped trigger the rally in its offshore debt from record lows on Thursday.
The comments from China’s regulator on Friday suggest the worst of the Huarong crisis is likely over, according to Yong Zhu, who manages about $6 billion at DuPont Capital Management in Wilmington, Delaware.
“The statement from the China Banking and Insurance Regulatory Commission is a clear indication that the policy of the Chinese government is to support Huarong and avoid near term default,” said Zhu, who doesn’t own the bonds.
Credit-default swaps on China Huarong International Holdings Ltd., an offshore unit of Huarong, tumbled to 956 basis points on Friday from a record 1,466 basis points, according to ICE Data Services.
What Bloomberg Intelligence says
“The Chinese government still operates in an opaque manner. So until something is officially announced, things are still in play. It’s either a bailout or a big haircut. People are sensitive to any news.”
— Dan Wang, credit analyst a Bloomberg Intelligence.
If Huarong were to restructure with offshore bondholders taking a hit, investors would reassess the credit risk of other Chinese companies that use a similar funding mechanism, said Nick Smallwood, an emerging-market debt strategist at M&G Investments. That would make future borrowing more costly and difficult to come by, Smallwood said.
“I think there is an expectation that Huarong will not default and that it is a structurally important credit, resulting in a higher likelihood of government support,” said Steven Oh, head of fixed income at Pinebridge Investments.
Chinese policy makers will have to weigh the broader market implications as they decide how to proceed, according to TCW’s Loevinger.
“Clearly, the direction of the policy is they want to send a signal that creditors have to pay more attention to credit risks and they have to stop expecting bailouts,” Loevinger said. “They want to kill the chicken to scare monkeys. But having Huarong default would be killing the tiger. Obviously, it’s a much bigger systemic risk.”
— With assistance by Irene Garcia Perez
(Updates with bond prices in third paragraph and Huarong Securities local bond repayment in tenth paragraph.)