Markets

Christopher Langner is a markets columnist for Bloomberg Gadfly. He previously covered corporate finance for Bloomberg News, and has written for Reuters/IFR, Forbes, the Wall Street Journal and Mergermarket.

The door is starting to close for Chinese developers' debt sales at home. This was foretold, and it will change the face of high-yield investing in Asia. 

The Shanghai Stock Exchange has temporarily stopped approving at least some property bond sales, Bloomberg reported Wednesday, citing people familiar with the matter. I argued on Oct. 10 that if real estate curbs in some Chinese cities didn't work, authorities could target funding avenues for developers as they had done in 2010. Unfortunately, that seems to be the case. 

For high-yield bond investors, this has serious implications. The outperformance of junk debt in Asia has been driven mostly by a mismatch between supply and demand. Issuance has dried up since late 2014 as Chinese property companies, the biggest sellers of sub-investment-grade dollar securities, increasingly turned to the domestic market. Spurred by the end of a soft ban on local fundraising, publicly traded developers sold more than 565 billion yuan ($84 billion) in onshore debentures since the start of 2015.

Homeland Securities
After being mostly left out of local bond markets, authorities opened the way for developers to issue in late 2014. The result was more than 565 billion yuan of local bonds in less than two years
Source: Bloomberg

As that route is closed, they're likely to return to international markets. There was a small taste of what could happen in April, when a failed domestic note sale sent some developers back into the offshore market, prompting yields to rise. As I argued then, global bondholders should be concerned not only about an increased supply of dollar securities: Worse is the fact that junk-rated companies have used the domestic market to boost leverage rather than repay foreign notes. 

Now, the developers that will return to the offshore market are even weaker than they were two years ago. As supply begins to outweigh demand, and given the lower quality of balance sheets, the premium for dollar debt in the region is likely to start rising. 

Shrinking Premium
In early October, the premium paid by high-yield bonds in Asia over U.S. Treasuries dropped to the lowest since January 2013. That trend could now be reversed
Source: Bloomberg

As it does, Chinese real estate companies will feel pressured to refinance upcoming maturities sooner rather than later, creating a vicious circle that could quickly undermine the gains accumulated by investors in Asian junk credit. 

The one straw for offshore bondholders is that the Shanghai suspension is temporary, and applies to an exchange-regulated bond market that's smaller than its interbank equivalent. Even so, about 70 percent of the 433.9 billion yuan of bonds sold by developers in the onshore market this year was regulated by the Shanghai bourse, according to data compiled by Bloomberg.

The exchange's action signals authorities' rising concern over an overheating property market. If the suspension is extended to the interbank bond market, then watch out.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Christopher Langner in Singapore at clangner@bloomberg.net

To contact the editor responsible for this story:
Matthew Brooker at mbrooker1@bloomberg.net