ភាពស្ងប់ស្ងាត់របស់ទីផ្សារលើវិបត្តិបំណុល Evergrande អាចជាដាវមុខពីរ

Investors seem to expect Beijing to ease its curbs on the property sector to head off contagion and damage to China’s economic recovery

With most of China’s debt held at home and few signs of spreading contagion, though, Beijing has a strong incentive to keep turning the screw

For a sign of the dangerous spillover effects of the liquidity crisis at China Evergrande Group, look no further than the average yield on Chinese US dollar-denominated high-yield bonds in an ICE Bank of America index of Asian junk-rated debt.

Having stood at 13 per cent at the start of last month, it has since surged to 22 per cent amid the acute financial stress ripping through China’s residential property market.

Mounting uncertainty over the fate of Evergrande – which has missed several debt interest payments since the end of September – and Beijing’s willingness to persist with its high-stakes deleveraging campaign in the property sector has put other vulnerable developers under severe strain.

Last week’s surprise default of Fantasia Holdings Group, a smaller housebuilder, and a warning on Tuesday by Sinic Holdings Group, another Chinese developer, that it does not expect to repay a bond due on October 18 have fanned fears of a wave of defaults across the industry in the coming months.

According to Bloomberg data, real estate companies’ missed payments account for 36 per cent of the record US$27.2 billion in onshore corporate bond defaults this year.

The scope for more distress is significant, given that almost 70 per cent of US dollar-denominated Chinese real estate bonds are speculative grade, with the sector accounting for more than half of China’s external high-yield corporate debt, according to JPMorgan data.

As the threat of more severe contagion increases, investors expect Beijing to ease some of the stringent curbs on the property sector. This is mainly to prevent credit stresses offshore from taking hold in domestic markets, but also to limit the damage to a slowing economy.

Investment strategists are already speculating about the timing and scope of measures to restore confidence in the real estate market. Morgan Stanley recently upgraded its view of China’s property industry on the grounds that “an inflection point is approaching”, with the sector’s stocks and bonds likely to benefit from a shift in policy.

Yet, Beijing’s pain threshold has already exceeded investor expectations. This is partly because markets underestimated the government’s determination to shift growth away from an over-reliance on property, but just as importantly it is because of the absence of the widespread contagion that would be a key factor in forcing Beijing’s hand.

While China’s heavy weighting in developing-economy high-yield bond indices has caused a sharp sell-off in emerging-market, junk-rated corporate debt, contagion across asset classes has been limited.

Even within China, the average spread on the country’s dollar-denominated, investment-grade corporate bonds included in JPMorgan’s benchmark corporate emerging market bond index rose just 22 basis points between September 10 and October 8, compared with a 576-basis-point rise for its high-yield equivalent.

Moreover, the yuan has barely budged versus the US dollar during the past month while domestic debt markets have been resilient.

Cross-asset contagion outside China has been even less noticeable. Average spreads on emerging market corporate bonds remain near historically low levels, spreads on US and European junk-rated bonds are close to all-time lows while global stock markets are trading near their record highs.

Although stresses in China’s real estate sector are a source of growing concern for many investors, they are not the focal point of market anxiety. Fears about stagflation, the global energy crunch and the risk of a policy mistake by the US Federal Reserve are the overriding determinants of sentiment.

Just as importantly, the typical market response to an emerging market crisis does not apply to China. Its debt is held mostly by domestic investors, limiting the scope for widespread contagion during times of financial turmoil.

This means that, from a market perspective, Beijing has a strong incentive to keep turning the screw on the property sector, particularly since it wants Evergrande’s plight to have a sufficient deterrent effect to address the financial risks and chronic oversupply in the housing market.

The low level of foreign ownership of Chinese debt and global markets’ lack of concern over Evergrande are preventing sentiment towards China from deteriorating too sharply. Conversely, this makes it less likely that Beijing will deliver the meaningful policy adjustment investors are hoping for.

To be sure, financial contagion is just one key factor determining how far Beijing is willing to go to rein in the excesses of the real estate sector. Given the industry’s pivotal role in China’s economy, a full-blown bear market would result in a much sharper slowdown.

The government’s tightening measures have already caused home sales to contract in year-on-year terms, while house prices are barely growing. A much steeper slowdown would force Beijing to offer some relief to the beleaguered sector.

Yet, angst over Evergrande on Wall Street is unlikely to be the trigger for the government to reverse course. Investors are likely to have to wait for a sharper, property-induced slowdown in China’s economy.

SCMP