#turning 25 this month and I was having some semi existential crises this month

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China Energy Reserve, a would-be real estate magnate, misses payment on US$350 million bond

The Beijing front office of China Energy Reserve & Chemicals Group (CERCG), which owned 55% of the consortium that announced in November 2017 its purchase of Li Ka-shing’s building, The Center tower. Three months later, the group withdrew from the consortium, leaving several Hong Kong tycoons to pick up the stake. Photo: SCMP/Simon Song The buyer is a consortium of Hong Kong investors and Chinese buyers led by Beijing-based China Energy Reserve & Chemicals Group The skyline in Rome. A bitter row over the formation of the first populist government in a leading European economy has plunged Italy into political turmoil, reviving concerns that Europe’s shaky monetary union may soon face another existential crisis. Photo: Bloomberg A woman shops for shoes at a mall in Kuala Lumpur, Malaysia. Capital flows to Malaysia’s stock market turned negative last week for the first time this year after foreign investors sold nearly US$950 million worth of equities in 11 straight days. Photo: Reuters

China Energy Reserve & Chemicals Group Co. said it hasn’t paid a US$350 million bond that matured earlier this month, in the latest example of China’s deleveraging campaign choking off financing for some companies.

The oil and gas producer, which has US$1.8 billion of offshore notes outstanding, cited “tightening in credit conditions” for the default. The company plans to suspend this year’s interest payments on bonds due in 2021 and 2022 while it considers asset sales and seeks to restructure the notes, China Energy said in a filing that appeared on the Hong Kong exchange on May 27.

China Energy rose to prominence earlier this year when it pulled out of a US$5.2 billion deal to buy a Hong Kong skyscraper from Li Ka-shing’s company, after making an unsuccessful bid for Australian oil and gas explorer AWE.

The company’s refinancing woes show China’s deleveraging efforts are taking a toll on funding for the corporate sector, particularly via a crackdown on shadow financing. The yield spread on three-year AA rated bonds, considered high-yield in China, over top-rated peers has risen 28 basis points this year to the highest since June 2017.

“The default adds to the jitters for China dollar bonds,” said Owen Gallimore, head of credit strategy at Australia & New Zealand Banking Group. “Access to funding onshore has been restricted for some time and this is now starting to cause stress as companies need to refinance.”

A graphical representation of the shareholders of China Energy Reserve. SCMP Graphics

The Chinese government is seeking to encourage market-based pricing for credit risk and is tolerating more bond failures. At least 14 publicly issued bonds defaulted in China’s domestic market so far this year, compared with 13 in the year-earlier period, according to Bloomberg-compiled data.

China Energy’s payment default has triggered cross defaults on other bonds of the oil and natural gas producer including US$400 million of 5.55 per cent dollar bonds due in 2021, and HK$2 billion (US$255 million) of notes maturing in 2022, according to the company’s statement. Cross default was also triggered on the company’s 2019 notes due in January and November, Lin Jianbang, an executive president at the company, told Bloomberg News on Monday.

The issuer of the 2018 bonds, a wholly owned subsidiary, has remitted accrued interest on those notes, the statement said.

Chen Yihe, chairman of China Energy Reserves. Photo: SCMP/Company handout

China Energy’s offshore unit had expected to receive funds to pay the $350 million principal on the 2018 bonds from onshore parent by noon Friday, but the money didn’t arrive by then, Lin told Bloomberg News Friday.

Lin also said the company was in talks with the trustee of its November 2019 bonds regarding a coupon payment due May 25 but said on Monday that the payment wasn’t made.

China Energy expects to continue its business operations as usual, and plans to sell assets to resolve its current cash flow difficulties, according to the statement.

This is what traders and analysts said about the default:

Anne Zhang, executive director for fixed income, currencies and commodities at JPMorgan Private Bank in Asia.

“This default shows onshore liquidity conditions are really tight and issuers can’t get funding from the market or banks. I expect investors in China’s bond market to have a tough time with more defaults this year. In the short term, industrial names are taking a hit in the offshore market.”

“I think the key here is government stance of moving away from a blanket support. We are in the middle of the juncture of moving from the ‘who’s your daddy’ model to the ”fittest survive“ model, and volatility remains high. If we fully move into the latter model we are actually in a better place.”

“It’s giving credit investors a real nightmare on trying to avoid landmines in the Chinese high yield space! Spooky signposts ahead: asset sale, coupon suspension, consensual restructuring – things that would appear in a Halloween theme park for bond investors. More and more funky rides are being installed.”

“I think that this was a unique case and don’t view it as a sign of a systemic problem. Within Chinese corporates, I don’t see widespread trends such as difficulties accessing liquidity, massive over-leverage that would indicate a systemic crises. There will always be companies that default for various problems even in the best of times.”

“I think while I doubt one catastrophic event won’t spook the whole market, these kind of headlines here and there do make people more cautious on Asia high yield dollar bonds in general. I think it’s quite name-specific. The markets have been semi-expecting some events, in that sense you should take it in its stride.”

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