Private Investors Seen Curbing Local Debt Blowout: China Credit

Premier Li Keqiang's invitation for
private investors to help finance railways, ports and waterworks
will help curb a blowout in regional debt, supporting a rally in
local-government financing vehicle bonds.
China will open up bidding for 80 projects in industries
now dominated by the state, according to an April 23 government
statement citing a meeting chaired by Li. The yield on 2017
notes of Chifeng City Infrastructure Investment amp; Development
Co., a road-building LGFV in Inner Mongolia, fell 124 basis
points this year to 6.40 percent, exchange data show.
"As long as the infrastructure project's cash flow is
certain, private capital would be willing to invest," said Li Ning, a bond analyst in Shanghai at Haitong Securities Co., the
nation's second-biggest brokerage. "With the government rolling
out measures to support local financing, investors are treating
LGFV bonds as safe-haven assets."
Lower borrowing costs are helping regional authorities as
they grapple with a slowing economy and a record 17.9 trillion
yuan ($2.1 trillion) pile of debt that helped fund spending on
roads, bridges and subways after the global financial crisis.
LGFVs, which issued the most bonds since 2012 last quarter, are
under pressure to help pay for Premier Li's plan to build 36
million low-cost homes in five years.
'Policy Signal'
Following the initial 80 projects, the government will
promote the opening of other sectors, including oil and gas
exploration, utilities, waterworks and airports to private
capital, according to the State Council's statement.
"The recent moves send a policy signal," said Qiu Xinhong, a fund manager in Guangzhou at Golden Eagle Asset
Management Co., which oversees 13.9 billion yuan of assets.
"The government is seeking to lower local governments'
borrowing costs and slow the buildup of debt. Golden Eagle's
Regional governments in the world's second-largest economy
have established more than 10,000 local financing units to fund
construction projects after they were barred from directly
issuing bonds under a 1994 budget law. Local governments are
responsible for 80 percent of spending while they get only about
40 percent of tax revenue, the legacy of a 1994 tax-sharing
system, the World Bank said.
While the level of local government debt is still
''manageable," policy makers need to slow the increase, Markus
Rodlauer, deputy director of the Asia-Pacific department at the
International Monetary Fund, said at an April 12 briefing.
Transfering the debt load from the local to central government
in "one stroke" would create "moral hazard" and encourage
local authorities to borrow even more, he said.
Slowing Forecast
LGFVs issued 370 billion yuan of notes this year, the most
in the same period since at least 2002, according to data
compiled by Bloomberg on 2,450 so-called Chengtou bonds. The
bulk of their debt now matures in 2019, with 451.3 billion yuan
due, compared with just 47.4 billion in the rest of this year.
Haitong Securities' Li said local governments will have
less need to borrow as new financing channels are added.
"In the long run, local governments, which are the main
financial source of regional infrastructure projects, may sell
fewer bonds through their financing vehicles," Li said.
Authorities have prioritized steps to wean borrowers from
excessive credit, and refrained from intervening when Shanghai
Chaori Solar Energy Science amp; Technology Co. failed to make a
coupon payment last month in the first onshore note default.
That's pushed credit-default swaps insuring the nation's
debt against non-payment up 10.5 basis points this year to 90.5
basis points, as expansion in gross domestic product cooled to
7.4 percent in the first quarter, the least in six quarters.
Returns Questioned
Benchmark borrowing costs have risen, with the yield on
China's five-year sovereign note up 83 basis points over the
past year to 4.03 percent. The premium investors demand to hold
AA rated similar-maturity corporate securities has climbed 44
basis points over the same period to 290 basis points. AA is the
most common rating for LGFVs.
China is headed for a "mini crisis" in its local-government debt market as economic reforms lead to the first
defaults, Li Daokui, former adviser to the People's Bank of
China, said on March 25. "Defaults must be allowed to
restructure the debt, which will definitely happen as part of
the reform measures in the second half," he said.
The government may struggle to attract private financing
for any unattractive infrastructure projects, according to
Golden Eagle's Qiu. "I'm not sure if private capital will be
interested in investing in infrastructure projects because
returns may not be high enough," he said.
Policy Shifts
Leaders are implementing the most sweeping economic-policy
shifts since the 1990s while trying to sustain growth close to a
target of 7.5 percent this year. That includes plans to fold
military hardware developers into publicly traded companies and
the biggest asset injection into a Hong Kong unit from China.
"Allowing private investors to invest in infrastructure
projects can kill two birds with one stone," said Xu Hanfei, a
bond analyst in Shanghai at Guotai Junan Securities Co., the
nation's third-biggest brokerage. "It may help control the
build up in local government borrowings while stemming the
slowdown in the economy."
China's legislature is considering budget law revisions
that may pave the way for local governments to sell bonds
directly, the official Xinhua News Agency reported on April 21.
Provincial-level governments would be able to issue bonds within
a quota set by the State Council, the report said.
"Municipal governments' only source of revenue is from
selling land or tax," said Beijing-based Kwong Li, chief
executive officer of China Lianhe Credit Rating Co., a Fitch
Ratings Ltd. venture. "As a country develops, municipal
governments, in order to achieve objectives handed down from the
central government, need to have other funding sources."
Qiu said allowing local governments to sell bonds directly
will cut costs and ease their financing burden.
"I am most bullish on LGFV bonds," he said.
To contact Bloomberg News staff for this story:
Judy Chen in Shanghai at
[email protected]
To contact the editors responsible for this story:
Sandy Hendry at
[email protected];
Katrina Nicholas at
[email protected]
Andrew Monahan
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