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China Trust Defaults Seen as Coal Maturities Quadruple

The number of trust products tied to China’s flagging coal miners maturing this year will almost quadruple, as rising borrowing costs for the industry make it harder to avoid defaults.

The number of redemptions of such products sold to multiple investors will jump to 19 this year from five in 2013, according to Cnbenefit, a consulting firm based in the southwest city of Chengdu. The yield premium on the June 2014 securities of China Shenhua Energy Co. (1088), the country’s largest coal producer, over similar-maturity government notes surged to a record 231 basis points on Feb. 8. That compares with 152 basis points for energy debt globally, Bank of America Merrill Lynch indexes show.

Repayment difficulties among miners including Shanxi Liansheng Energy Co. and the failed Shanxi Zhenfu Energy Group have already emerged this year, as slowing economic growth and anti-pollution policies drive coal prices to near a four-year low. Thirteen of China’s 50 publicly traded coal companies have a debt-to-equity ratio exceeding 100 percent.

“Trust products have a very high probability of default this year,” said Shi Lei, Beijing-based head of fixed-income research at Ping An Securities Co., a unit of the nation’s second-biggest insurance company. “Coal mines’ trust products are the weakest link.”

Missed Payments

China Credit Trust Co. reached an agreement in January to repay investors in a 3 billion yuan ($494 million) high-yield plan after Shanxi Zhenfu collapsed and was unable to meet liabilities. Holders of the Credit Equals Gold No. 1 product protested yesterday in Shanghai seeking a better settlement.

Shanxi Liansheng has missed four payments on a 973 million-yuan product issued by Jilin Province Trust Co. and Haitong Securities Co. said it may miss payment on a fifth tranche due today. The miner owed 4.32 billion yuan to six trust companies, including Zhong Jiang International Trust Co. and Minmetals International Trust Co., according to Haitong.

A person at Jilin Province Trust who answered the phone yesterday and wouldn’t give his name declined to comment.

As default concerns escalate, the cost of insuring China’s sovereign debt against non-payment is rising. The nation’s credit-default swaps have increased 6.5 basis points in 2014 to 86.5. The yuan fell today to the lowest this year at 6.0764 per dollar.

The yield gap on China’s five-year AA- notes over AAA debt has jumped 24 basis points to 221 basis points since Dec. 31. The yield on the benchmark 10-year government bond has dropped one basis points to 4.54 percent.

Prices Slide

The world’s second-biggest economy slowed in the fourth quarter to 7.7 percent from 7.8 percent in the previous three months as Premier Li Keqiang drove up money-market rates to encourage companies and local governments to deleverage. A report on Jan. 30 signaled China’s factories are contracting for the first time since August.

The price of Newcastle coal has dropped 44 percent from its 2011 high. China’s government pledged in March to take steps that include cutting coal consumption as part of an effort to reduce worsening air pollution. Beijing Mayor Wang Anshun last month said the city would cut use of the fuel by 2.6 million metric tons and eliminate 300 polluting companies this year, Xinhua reported.

Maturing Debt

“The fundamental reason for the decline in the coal industry is the slowing economy,” said Li Qing, a bond analyst in Shanghai at Guotai Junan Securities Co., the nation’s third-biggest brokerage. “Growth of the heavy and chemical industries are slowing.”

That’s adding to concerns as trusts face mounting redemptions. About 907 billion yuan of so-called collective trusts will come due this year, including 15 billion yuan tied to mines, Citic Securities Co., the nation’s biggest brokerage, estimated last month. Collective trusts differ from other trusts that cater to single buyers such as institutional investors.

Collective trusts maturing this year include Zhongrong International Trust Co. and Huarong International Trust Co.’s products tied to coal mines, according to Cnbenefit.

Investors in the high-yield product issued by China Credit Trust were bailed out days before it matured. China Development Bank Corp., the biggest policy bank, lent 2 billion yuan to Shanxi Liansheng to help repay maturing trust products, the 21st Century Business Herald reported on Feb. 14, citing unidentified people.

Default Debate

“There are different opinions on whether the government should allow defaults,” said Li Ning, a bond analyst at Haitong Securities. “Regulators, such as the central bank, hope to build a sound system of sharing risks, while local governments and financial institutions still have low tolerance for defaults as they want to protect their own reputations.”

Fifteen out of the 18 Chinese coal companies that have A-share listings onshore and that have released 2013 forecasts said profits may have declined, according to data compiled by Bloomberg. One forecast losses. Debt at all Chinese listed miners of the fuel has surged to the equivalent of $60 billion from $15 billion in 2007, pushing the average debt-to-equity ratio to 72 percent from 49 percent, Bloomberg-compiled data show.

Heilongjiang Heihua Co., a manufacturer of coal chemical products in northern China, has the highest such ratio at 403 percent. Larger companies are also suffering. Net losses at Datong Coal Industry Co. (601001), the nation’s third biggest producer, may have been as much as 1.45 billion yuan last year compared with a profit of 62.6 million yuan in 2012, it said in a Jan. 28 statement.

Increased Scrutiny

The China Banking Regulatory Commission ordered its regional offices to increase scrutiny of credit risks in the coal-mining industry, two people with knowledge of the matter said last month. The slowing economy and large scale of redemptions may lead to more trust defaults this year, according to Haitong’s Li. The failure of China Credit Trust to pay some interest and delayed payments at Jilin Province Trust should be considered as defaults, Li added.

About 5.3 trillion yuan of all trust products in China will come due this year, up from 3.5 trillion yuan in 2013, Haitong estimated last month, warning that firms can no longer shoulder all the risks tied to offering implicit guarantees. Assets in all trusts surged 46 percent in 2013 to a record 10.9 trillion yuan, the China Trustee Association said in a Feb. 13 statement.

“Trust products tied to companies in overcapacity industries, such as coal, steel and nonferrous metals, have the highest probabilities of default,” Li said. “With the economy expanding at a slower rate, companies that expanded too quickly are doomed to suffer.”

To contact Bloomberg News staff for this story: Judy Chen in Shanghai at xchen45@bloomberg.net

To contact the editors responsible for this story: Sandy Hendry at shendry@bloomberg.net; Katrina Nicholas at knicholas2@bloomberg.net

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