New China private credit opportunities opening up
When it comes to seeking opportunities in Chinese private debt, overseas investors have tended to focus on secondary purchases in the offshore bond market or on mainland non-performing loans (NPLs).
But a new avenue may be opening up for foreign firms to lend directly to onshore companies under certain conditions, said David Lee, head of the special situations group at CLSA Capital Partners, a Hong Kong-based private market investment firm.
However, it’s not a particularly swift or well-signposted process.
Lee said policy announcements made back in 2017 by the People’s Bank of China (PBoC) and the State Administration of Foreign Exchange (Safe) show Beijing’s desire to draw in more foreign capital and provide clear opportunity for foreign lenders.
“We’ve been going through our own process of understanding the rules and implementation and what will be required to get a transaction through,” he told AsianInvestor in March. “It’s early days, but I would expect this activity to accelerate very quickly.”
Lee saw the announcements – Safe Notice 3 and PBoC Notice 9 – as further clarification and/or expansion of existing policy.
The big change under Safe Notice 3 big was that it allowed Chinese companies to guarantee their offshore borrowings, he said. This was not allowed previously; so-called “keepwell” agreements were common prior to this change, added Lee. “[They are] is a lawyered way of saying the Chinese company would repay, but fall short of a guarantee.”
Moreover, he said, the PBoC Notice 9 expanded the foreign debt limit from 1x net asset value to 2x.
Such developments have come alongside regulatory action to constrain shadow banking and the trust financing world in recent years, thereby spurring demand for alternative capital, Lee added.
Beijing has also been busy working to steadily open up its bond markets to offshore players, but there remain various challenges and obstacles to resolve before foreign capital flows in more readily.
Meanwhile, Lee and other private capital investors are keen to see more opportunities to participate in unlisted Chinese credit, beyond, for instance, NPLs, which he and others view as unlikely to achieve satisfactory returns for the risk involved.
China, along with India, is certainly seen as ripe for distressed and special situations investors these days. The country is a key focus for a growing number of asset managers that have been building up capabilities in Hong Kong to invest in private debt in the past few years.
Slowing China GDP growth is likely to leave more companies in worse financial shape. The prevailing US-China trade war hasn’t helped. The onshore corporate default rate shot up in 2018 to 1.03% from 0.37% the year before, and it’s set to continue, Wang Ying, head of Fitch Ratings’ China research initiative, told AsianInvestor in the first quarter of this year.
Sales are falling in China’s property sector, he added, while rising interest rates push up developers’ funding costs. President Xi Jinping’s domestic debt-deleveraging campaign is likely to cause more bad debt sales.
This article is based on an adapted and expanded extract from a feature in the latest (Spring 2019) edition of AsianInvestor magazine.