Credit default swap trading ‘no threat to property market’

Trading in credit default swaps is unlikely to trigger a substantial correction in China’s property market, economists said on Tuesday, saying that concerns that speculators would use credit default to short the market were unfounded.

The National Association of Financial Market Institutional Investors, a unit under the People’s Bank of China, has approved trading in credit default swaps, a financial swap agreement that allows buyers of CDS to be compensated by sellers in the event of a loan default.

Industry analysts said that the move underscored the government’s intention to increase the use of market forces in addressing China’s debt problem instead of resorting to a government bailout when credit defaults take place.

But the approval of credit default swap trading has generated anxiety in the market, with concerns that the controversial financial tool could be used by speculators to short the country’s red-hot property market.

Credit default swaps were blamed for igniting the meltdown of the capital market in the United States during the financial crisis in 2008.

Strong mortgage demand has driven up Chinese household borrowing, which accounted for about 70 percent of all new loans extended by Chinese banks in August.

Total new loans grew to 948.7 billion yuan ($142.27 billion) in that month, more than double the amount in the previous month, according to official data.

Zhao Yang, chief China economist at Nomura Securities, said that the trading in credit default swaps was unlikely to cause great volatility in the housing market, which is more sensitive to factors such as mortgage policies and land supply.

“The market has read too much into the trading of credit default swaps. It is a much needed financial tool that could help improve China’s credit market by allowing market forces to have greater say in the pricing of corporate debt,” Zhao said.

Most economists believe that the trading in credit default swaps will meet the rising demand by investors in China to hedge credit risks amid the growing likelihood of more missed payments and credit defaults by companies amid the economic slowdown.

“At this stage, credit default swaps can actually help banks manage credit risks, and potentially increase banks’ appetite to lend because credit risks are perceived to be lower with this instrument,” said Hong Hao, chief strategist at BOCOM International Holdings in Hong Kong.

Wang Han, an analyst at Industrial Securities Co Ltd, said trading in credit default swaps could help provide more liquidity in the financial market and allow banks to spin off some risks in their corporate business.