NATIXIS China Bond Monitor: Offshore yields remained calm until the end of September, but signs of stress are now multiplying

• Offshore USD bond issuance by Chinese corporates continued to perform poorly in Q3, falling 15% YTD YoY. In contrast, the onshore issuance has maintained its momentum, growing 16% YTD YoY. Beyond the FED monetary policy normalization, the increased risk aversion, which pushed up the risk premium, is behind the difficulties for high yield Chinese issuers to raise fund offshore.
• Still, the aggregate offshore funding cost was rather stable with a reduction of 10 bps in Q3 2018. This is much better than the 54 bps increase in the cost of funding in a single month back in June. The latter was due to a combined effect of FED’s hikes, concerns over bond defaults and the US-China trade war. Conversely, the shelter effect from other emerging markets and the limited issuance of high yield bonds have helped containing funding costs in July and August.
• However, the situation is getting tougher again in September as yields have climbed further after the latest FED’s hike. Going forward, Chinese firms are likely to see higher USD funding costs. First, as the US continues its monetary policy normalization, the risk premium will also rise. Second, the structural slowdown in the Chinese economy will continue to cloud over investor confidence, unless fiscal and monetary stimuli are strong enough for a cyclical upturn beyond expectation. Third, the worsening repayment ability in some debt ridden local government financing vehicles (LGFVs) could raise concerns, especially after the recent credit rating downgrades. Firms with low repayment ability, high level of short term debt and over exposure to USD funding may find a more difficult time in debt repayments.
• Finally, a laxer PBoC will continue to make domestic issuance more appealing and, thus, we do not expect a recovery of the offshore issuance any time soon.

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