‘RARE OPPORTUNITY’ IN CHINA PROPERTY BONDS
Evergrande crisis has seen prices plunge and risk premiums widen amid wave of defaults, opening a window for investors, money manager argues
A seven-month slump in Chinese junk bonds has created a rare opportunity to scoop up bargains, especially in the dominant property sector, amid widening cracks in the market, according to Hong Kong-based money manager Value Partners.
Prices have declined while risk premiums have widened to the highest levels in more than a decade, as more companies have reneged on their debt obligations. The fallout is typically associated with major dislocations and panic selling, and is normally followed by a rebound as appetite and market stability return.
“We are concentrating on buying names that are considered benchmarks and also those that provide good liquidity to the market when we have to exit,” said Gordon Ip, chief investment officer for fixed income.
“We are also actively involved in names that have unique events around them.”
Ip, who manages the Greater China High Yield Income Fund, had added Chinese property bonds to its portfolio in recent months in a bet on market recovery, taking their share to 30 per cent of the fund’s assets, versus 12 per cent in November, Ip said during an email interview with the Post.
The US$1.3 billion fund is part of the US$9.3 billion in assets managed by Value Partners, which became the first money manager to be listed in Hong Kong in 2007.
Confidence in Chinese credit waned over the past year as Beijing’s “three red lines” policy to curb excessive leverage caused a cash crunch, drying up funding for indebted developers and sending more than US$49 billion of bonds from China Evergrande Group and peers into default.
The ICE BofA China corporate high-yield index, which tracks 163 bonds with US$45 billion in face value, has fallen every month since August as more developers failed to repay creditors. Property developers and managers account for 56 per cent of the bonds in the index.
The index has lost 26 per cent alone this year as of March 3, and 44 per cent over the past six months. Investors demanded 2,533 basis points over Treasuries to own the securities, versus 863 a year ago and 632 before the pandemic. Among property bonds, the spread widened to 4,282 basis points from 933 a year ago and 673 before the pandemic.
“In terms of credit spread, it has been trading anywhere from three to six standard deviations on the cheap side,” Ip said. “People who still remember the likelihood of [this] standard deviation event will know how rarely this happens.”
Not many China-focused funds have managed to sail through 2021 unscathed. On top of default woes at home, Russia’s invasion of Ukraine has added another layer of risk aversion in emerging markets.
Value Partners’ Greater China High Yield Income Fund has declined 12.6 per cent this year to March 2, after taking a 22 per cent beating last year, according to fund data.
Its top 10 holdings of Chinese companies at the end of January included eHi Car Services, GCL New Energy and China Hongqiao Group. Powerlong Real Estate Holdings, CIFI Holdings and Logan Group were its top bonds in the property sector.
“China is front and centre in terms of large credit markets where a cycle is clearer,” Varde Partners said in a note to clients last month.
Chinese dollar-denominated bonds, at US$200 billion in total volume, were “in the midst of a significant default cycle” where nearly US$51 billion worth defaulted in 2021, US$49 billion of them from the property sector, it said.
Contracted sales at China’s top 100 home builders slumped for an eight consecutive month in February, falling 47 per cent from a year earlier, versus a 41 per cent drop in January, according to China Real Estate Information Corporation.
“We should still expect additional defaults from the most leveraged developers,” said Carlos de Sousa, an analyst and fund manager at Vontobel Asset Management. “Yet, we now see the light at the end of the tunnel.”
He said large debt restructurings, such as the one involving Evergrande, would be reasonably managed with public sector intervention. The sector “has potential, but it’s important to remain selective as some restructurings will be more creditor-friendly than others”, de Sousa added.
Ip is confident of the upside. The market could get a lift from China’s policy easing measures, he said, as authorities had eased their control over mortgage and home financing to shore up the industry. The biggest drawbacks were short-term liquidity crunches and headline risks, he added.
“Chinese property credits are no doubt cheap, therefore fundamentally attractive, by any measure,” he said.
Chinese property credits are no doubt cheap, therefore fundamentally attractive
GORDON IP, VALUE PARTNERS