Property rules hit offshore bonds

Onshore note issues decline 94 percent in January year-on-year on speculation

Steps to cool China's property market are stoking speculation the good times are about to end for developers' bonds offshore.

The hangover would be big. Yield-starved fund managers around the world have piled into the $65 billion market for dollar-denominated notes sold by Chinese builders. Yield premiums for lower-rated US-currency securities from China, the majority of which are from real estate borrowers, dropped to the lowest level since 2007 this month, according to a Bank of America Merrill Lynch index. That leaves plenty of scope for pain among the holders of those bonds and the developers who need to raise financing.

"We are not optimistic about prices and sales in the property market," said Xu Cheng, who will be fund manager for Franklin Templeton Sealand Fund Management Co's new overseas bond fund, which finished raising money on Jan 19. The Shanghai-based joint venture of the San Mateo, California-based group oversees 20.1 billion yuan ($2.9 billion) of assets. "We estimate there will be a correction in Chinese developers' dollar bonds. The near-record low yield premium isn't big enough to cover credit risks."

Regulators concerned about a bubble have succeeded in taking some of the froth out of housing prices. China Bond Rating Co Ltd estimated property sales volume may suffer a "substantial decline" this year as local governments step up buying restrictions and down-payment requirements. A government report showed home prices fell in Beijing, Shanghai and Shenzhen in December and increased in the fewest Chinese cities since January 2015.

The nation's onshore real estate securities may be the riskiest part of the local yuan-denominated debt market in 2017, according to the largest number of respondents in a survey of domestic analysts and traders conducted Dec 22 to Dec 26.

Some investors believe the government won't permit a slump in real estate.

"The property industry has been and is still one of the pillars of the Chinese economy," said Wu Xiangjun, an overseas bond fund manager in Shanghai at Guotai Asset Management Co Ltd, which oversees 77.7 billion yuan of assets.

The government probably won't loosen controls on property bond financing in the first half, according to Christopher Yip, an analyst at S& P Global Ratings in Hong Kong.

Onshore note offerings by the sector shrank to 2.3 billion yuan in January, down 94 percent year-on-year. GF Fund Management Co Ltd, which oversees 304.9 billion yuan of assets, said curbs on property financing may increase cash-flow pressures.

"Property bond yield premiums may widen," said Li Yaozhu, a Guangzhou-based overseas bond fund manager at the firm. "Smaller developers may have liquidity problems and those with bad credit profiles may even go bankrupt."