China Averts Second Corporate Default as Huatong Pays Bonds

China avoided a second default in its onshore corporate bond market, easing concern that financial-market instability could spread as debt rises and growth slows in the world’s second-largest economy.

Huatong Road & Bridge Group Co. paid all principal and interest on 400 million yuan ($65 million) of notes today, four people familiar with the matter said, asking not to be identified because they weren’t authorized to speak publicly. The builder based in the northern province of Shanxi said last week it might fail to make payment.

Speculation is mounting that nonpayments will increase in China’s $4.2 trillion bond market as policy makers try to balance the risk of letting weaker companies fail and ensuring market stability. Shanghai Chaori Solar Energy Science & Technology Co. was the first to default in March when it didn’t meet part of an interest payment on 1 billion yuan of debt. Huatong was making efforts to raise the funds, with help from local governments and bond underwriters, company official Geng Naizhuang said by phone July 18.

“It’s the right move to help protect stability in the market,” said Qiu Xinhong, a fund manager in Guangzhou at Golden Eagle Asset Management Co., which oversees about 11.3 billion yuan. “If Huatong had defaulted, local governments and the local companies in the city or the province would all have problems raising money.”

Record Debt

An operator who answered the phone at Huatong declined to comment or transfer the call.

Chinese firms have the most debt globally after increasing borrowings to $14.2 trillion as of Dec. 31, surpassing the U.S.’s $13.1 trillion, Standard & Poor’s said in a June 15 report. Premier Li Keqiang has unveiled measures which may help avert collapses in one of China’s most leveraged sectors, real estate, in May introducing central bank loans for low-income housing and lowering reserve requirements for some qualified banks.

Short-term borrowing costs leapt by the most in eight months last week after Huatong flagged it may have trouble meeting its financial obligations with one-year top-rated commercial-paper yields rising 26 basis points to 4.957 percent, the highest since April 16.

The Hang Seng Financial Index, which tracks shares of banks and insurance companies on Hong Kong’s benchmark stock index, extended gains after today’s news broke, closing 0.9 percent higher.

Default Watch

“The market had priced in expectations that Huatong would avoid a default,” said Yang Feng, a bond analyst in Beijing at Citic Securities Co., the nation’s biggest brokerage. “A company won’t default when both local governments and banks try to save it.”

China will experience more companies like Huatong running into repayment difficulties as the economy slows, he said.

Growth in China is set to cool to 7.4 percent this year, the slowest in more than two decades, according to the median estimate in a Bloomberg survey. The government is aiming for expansion of about 7.5 percent, and fourteen of 22 respondents to a Bloomberg survey this month said it will need to “somewhat” increase stimulus to meet that goal. President Xi Jinping said in May the government will pursue growth and reform, while preventing risks in order to preserve social stability.

Financial Strain

The reaction in the weeks after Chaori’s default was more muted with yields climbing 21 basis points to 5.31 percent in the five days ended March 21. Chaori missed its payment March 7 and has since had a restructuring application accepted by a Shanghai court.

A Huatong default would have differed from Chaori’s in that it would have been the first company to fail to pay both a bond’s interest and principal, and also the first to default in China’s interbank note market, the nation’s biggest bond bourse.

Huatong said it may miss its payment in a July 16 statement to the Shanghai Clearing House. The statement also said Chairman Wang Guorui is assisting authorities with an official investigation, without elaborating. Wang was removed from the Chinese People’s Political Consultative Conference Shanxi Committee on July 9 for suspected violations of the law, an official statement and media reports said earlier this month.

Five-year AA- bond yields advanced 5 basis points this week to 6.96 percent. Costs touched 8.38 percent in January, the highest in at least six years, as a cash crunch intensified. In China, notes ranked AA- and below are equivalent to non-investment grades globally.

Huatong isn’t the only company to exhibit financial strain since Chaori. Closely-held developer Zhejiang Xingrun Real Estate Co. collapsed in March while building-materials maker Xuzhou Zhongsen Tonghao New Board Co. averted a default in China’s private junk-bond market in April after its guarantor paid up.

Notes sold by packaging company Zhuhai Zhongfu Enterprise Co. and solar-cell maker Baoding Tianwei Baobian Electric Co. were also placed in trading halts amid mounting losses.

“Given the regulators’ stress on safeguarding systematic risks, we probably won’t see a default on a bond principal in the short term,” Song Jinzhi, the Shanghai-based head of investment at Founder Securities Co. said by e-mail July 21. “We may see sporadic risks, such as defaults on private placement bonds, and trust products.”

— With assistance by David Yong, Judy Chen, Laura Yin, and Steven Yang

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