China’s world-beating stock surge is sucking money away from bonds and thwarting central bank efforts to cut borrowing costs to support the economy.
Yields on five-year yuan corporate notes with top ratings have jumped 30 basis points in the past month to 4.74 percent, near the highest since December. The Shanghai Composite Index, the benchmark for China’s largest equity market, has surged 24 percent in the same period, the most among major stock gauges globally.
The People’s Bank of China’s two interest-rate cuts since November spurred the equities rally even as they failed to lower company financing costs or ease debt repayment difficulties. Cloud Live Technology Group Co. became the second company to default in China’s onshore bond market last week amid the slowest economic growth since 1990, while Kaisa Group Holdings Ltd. missed interest payments after being embroiled in a corruption probe.
“With the stock market performing so well, it’s natural more funds would choose to invest in stocks instead of bonds, which has resulted in the lack of investor demand for new bonds and therefore higher yields,” said Li Zhang, Beijing-based credit analyst with Guotai Junan Securities. “Because of the elevated required yield, some issuers have pulled deals.”
Guangdong Roads & Bridges Construction Development Co. delayed a 2 billion yuan ($322 million) bond offering that was originally planned for April 2, citing big market fluctuations, according to a company statement on ChinaBond’s website.
Companies raised 205 billion yuan from domestic investors through IPOs in China in the first two months of the year, double the same period of 2014, according to the China Securities Regulatory Commission. Bond issuance rose just 7 percent to 581.6 billion yuan, data from the China Bond website show.
“It’s safe to assume when more funds go to the equity market, less are left with bonds,” said Dongliang Liu, senior bond analyst at China Merchants Bank in Shanghai. “We’ve noticed more funds have been established to invest in equity and banks have been selling more wealth management products that use stocks as the underlying asset.”
The jump in stocks in Shanghai has pushed the earnings yield down to just 0.08 percentage points higher than for top-rated corporate notes due in 10 years Wednesday, making shares the most expensive relative to bonds since 2010.
As investors shift into riskier assets, the yield on the benchmark 10-year sovereign bond jumped for seven straight weeks through Friday, the longest streak of increases in Bloomberg data going back to 2007. It’s now at 3.62 percent, near its highest in four months. The yield on like-maturity AAA corporate securities is 4.89 percent, after touching a three-month high of 5 percent on March 31.
“Chinese government bonds and notes with high ratings are seeing the biggest drop in prices because the returns on these notes can’t cover the cost of funds for many investors,” Guotai Junan’s Zhang said. “Also there’s been a lot of supply of high-quality bonds recently and that’s likely to continue in the near term which is also putting pressure on prices.”
Top-rated debt offerings are likely to flood the market as China encourages municipal authorities to sell bonds directly, rather than through local-government financing vehicles. Local authorities will issue at least 1.6 trillion yuan of debt this year, quadrupling from 2014, according to Ministry of Finance estimates in March.
More money will likely flow into equities as the government encourages financing through share sales, said Gao Qunshan, chief credit analyst at Industrial Securities in Shanghai. PBOC Governor Zhou Xiaochuan said in March firms seeking financing through the stock market can help the economy.
China’s economy slowed to the weakest pace of expansion since 2009 last quarter as policymakers implement a reform program while cushioning growth with targeted stimulus. Gross domestic product rose 7 percent in the three months through March from a year earlier, the statistics bureau said in Beijing Wednesday,
“It is a big problem that the real borrowing costs have yet to come down after the rate cuts,” Gao of Industrial Securities said. “We expect the government to come out with more policies to tackle this problem. The whole market is watching.”