SHANGHAI – Investment arms in China's cities and provinces are selling debt at a record pace to finance roads, railways, utilities and ports as they seek to boost growth by spending more on infrastructure.
Smaller cities and counties in China have long used municipal finance cars to raise money through debt held outside the municipalities themselves. Borrowers are often heavily indebted and lack formal state aid, although they are typically seen as having an implicit guarantee that Beijing would bail investors if debt is non-repayable.
Still, some investors have viewed them as one of China's riskiest categories of bonds. In 2014, for example, Beijing – concerned about debt buildup and lack of transparency ̵
However, the central government has eased the attitude towards debt accumulation, warmed investors to the financing vehicles, and in fact state aid will be there if necessary.
Municipal financing vehicles have issued 2.37 trillion yuan ($ 332 billion) of domestic bonds this year. This sum is up 38% from the same period in 2018, and is poised to break the full-year record of 2.56 trillion yuan set three years ago. Foreign issuance in dollars has reached $ 23 billion: up 56% from the previous year, approaching the 2018 full-year record of $ 24 billion.
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a Hong Kong-based analyst at S&P Global Ratings said this was a good time for borrowers to refinance or otherwise raise funds because China's official stance was supportive, given infrastructure investments that are still crucial to keeping the economy humming.
The sale is partly about refinancing: A record 2.1 billion yuan debt from municipal finance vehicles has either matured this year, or will do so by the end of the year, according to Wind, a data provider. Next year, another 1.7 trillion yuan matures. Maturities on offshore debt are also increasing, and will hit $ 25.3 billion in 2021.
This type of debt issuance took off as local governments were prevented from borrowing directly from banks or bond markets. As of 2015, Beijing has allowed regional authorities to sell "special bond loans" directly to finance public works, with a view to gradually replacing these off-balance-sheet debt.
However, Li said: "The current scale of special purpose bonds issued by local authorities is not enough to meet the funding needs of all these projects." This is partly because only the provincial and a few municipalities are allowed to issue local government bonds, while many infrastructure projects have been carried out at much lower levels.
Investor enthusiasm has increased, amid a broader rally in the bond market, the average return on five-year debt with AA domestic credit rating issued by municipal finance cars across China has fallen to 4.21 The bond prices rise as interest rates fall, issuers include borrowers from affluent areas such as eastern Zhejiang Province, as well as those from less developed regions, such as Inner Mongolia in the north.
also dropped: The return is now about 1.2 percentage points above those of the corresponding Chinese government bonds, the narrowest gap in almost three years. This gap, known as the credit spread, measures the extra return that investors are demanding to invest in riskier corporate bonds rather than safer government debt.
The comparative appeal of these bonds has also increased as defaults on bonds issued by private companies have risen sharply. These debtors have limited access to loans from China's banks, which are mostly state-subsidized, and are less likely to secure tax cuts.
Corporate bonds with a face value of 122.3 billion yuan have defaulted so far in 2019, an increase of 35% year on year. Of the 150 bonds that have gone sour this year, all but nine were issued by private companies.
"The continued rise in corporate bond issuance by other types of companies has also increased investors' sense of security" about bonds from municipal finance vehicles,
a bond fund manager at Shanghai Yunhan Asset Management Co.
Many financing vehicles rely on government subsidies to stay afloat, and no one has ever defaulted on it. However, analysts say that default is not a purely financial matter. Some other government-related issuers have failed to repay investors recently, such as aluminum manufacturer Qinghai Provincial Investment Group Co.
"Beijing's political priority of maintaining financial stability also provides a certain sense of security for investors," said S & Ps Li, adding that municipalities that finance vehicles play a very important role in the capital market and financial system.
They are also seen as crucial to the reputation of local officials, who are likely to do anything to keep them in business. "No one wants to be the first to default, and no local official wants to lose the job because of it," said a Beijing-based bond hedge manager at a major Chinese brokerage.
Write to Shen Hong at firstname.lastname@example.org
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