Earlier versions of this article misrepresented potential default timings. The article has been fixed.
With over $ 300 billion in debt, Chinese real estate giant Evergrande is still on the verge of default. Global stocks plummeted on Monday as investors who previously ignored the situation began to pay attention.
With regard to China, concerns about the bursting of the real estate bubble have long been a concern for investors. According to the Financial Times, the highly leveraged real estate sector accounts for more than 28% of China’s economy.
Evergrande’s dire situation has sparked a debate about how Chinese authorities should respond. Meanwhile, Evergrande’s holders of about $ 19 billion in dollar-denominated bonds are wondering what their investment will be.And Evergrande stock
In Hong Kong it plummeted 83%.
Evergrande faces interest payments of $ 83.5 million on September 23 for bonds from March 2 to 22, and $ 42.5 million on September 29 in its March 2024 note. .., According to news reports.. If you do not settle these payments within 30 days of the due date, Evergrande will be the default.
Credit rating agency Fitch Ratings downgraded Evergrande’s rating from CCC + to CC on September 7, indicating that some defaults could occur. Fitch analysts said in a September 14 report that the housing market is highly fragmented, but Evergrande is one of China’s top three real estate developers.
How is the reaction?
Concerns over the Evergrande Group were blamed on Monday for wobbling across the global stock market with futures.
Dow Jones Industrial Average
Drop futures over 500 points
With S & P500
Treasury yields are declining, 10-year government bond yields
It fell by 4 basis points as investors appeared to have surged in safe assets. As debt prices rise, yields fall.
This is a shift from last week when analysts focused on the lack of investor reaction to Evergrande’s predicament.
What are the risks?
Evergrande’s market share in 2020 was only about 4%. Fitch said the risk of significant pressure on home prices in the event of a default is low unless asset restructuring and liquidation are chaotic. “Fitch believes this is something the authorities want to avoid,” the analyst wrote.
However, confidence in that scenario may have been shaken later. Reuters reported The state-sponsored editor of the Global Times warned that Evergrande should not be assumed to be “too big to fail.”
Monday’s S & P Global Ratings said Evergrande defaults will occur More than just ripples in financial marketsHowever, it is unlikely to lead to a default tsunami.
“The event could significantly undermine investor confidence in China’s real estate sector and speculative-grade markets, and access to financing irrelevant names,” said Matthew Chow, credit analyst at S & P Global Ratings. May be reduced. “
A UBS analyst, led by Kamil Amin, said in a note Thursday that the potential for market spillover depends on whether Evergrande rebuilds or liquidates completely. Analysts wrote that they are convinced that restructuring is still the most likely result.
“In the event of restructuring, bonds are expected to bounce off lows and transmission is expected to be significantly limited,” they said.
However, they warned that in the case of liquidation, an “epidemic” is likely to occur. They said the spillover occurs through three channels:
Investor paybacks are very low, which significantly undermines investor confidence in the broader real estate sector and the high-yielding offshore markets of Asia, leading to a spillover to a wider range of Chinese financial assets.
The domino effect of credit events, given that both banks and non-banks with large exposure to Evergrande could potentially fall into or be forced to restructure.This again causes a spillover to other Chinese financial assets, especially driving a decline in the performance of both finances. [developed market] When [emerging market] A credit / stock market led by a name that is directly exposed to either Evergrande itself, its subsidiaries, or its creditors.
Full liquidation includes non-compliance with the Keepwell agreement, a written guarantee by the parent company to maintain the solvency of the subsidiary. This requires rating agencies to readjust the methodology and remove multiple rating increases and assumptions. State support across both the offshore US dollar and onshore non-real estate sectors. Given that some EM credit accounts tend to hold Chinese offshore bonds as part of Asian high yield bonds, this leads to additional selling pressure on China’s offshore and onshore bond markets. Both can cause large liquidity distortions. Yield exposure.
Why is the reaction delayed?
Some analysts last week argued that it was largely justified for investors to look back on the turmoil associated with the Evergrande Group.
“One of the best ways to think about China is that it is a country, but it is operated.
Tom Essay, founder of Seventh Report Research, said in a memo on Friday.
There are “private” banks and businesses, but in the end the Communist Party writes that it “owns everything” virtually when needed.
“And so there is really no global transmission risk to Evergrande, because, ultimately, and as far as we know, lending to Evergrande was implicitly blocked by the Chinese government by a Chinese bank. Because it was done, the balance sheet can easily handle a huge loss, which is equivalent to about $ 303 billion in debt, “he said.
Investors are evergrande because China’s financial burden “has been seen as a slow-motion train wreck, not a sudden one,” said Steve Burrow, head of G-10 strategy at Standard Bank. I overcame the situation of the group at once. , In a memo on Friday.
He said the collapse, including Long-Term Capital Management, Barings and Lehman Brothers, “broke out of the left field” and created a domestic and international shock wave. But “China’s different financial support structure and protracted nature of difficulties may have desensitized the global market to the tensions that currently seem to come to mind in the case of Evergrande.”
Capital Economics economist Thomas Matthews said in a note last week that investors had previously been captured “on the hop” by Chinese authorities.
Three weeks after the People’s Bank of China acquired Baoshang Bank in 2019, investors reassessed the sector’s implicit government backstop, deteriorating credit, he said. Of reaction in markets other than China.
However, broader ripples were sent through the market in 2015, with global stocks plunging in August after authorities unexpectedly depreciated the yuan’s currency after a 40% fall in Chinese stocks. He said.
Matthew argued that one of the lessons of these previous episodes was that “Chinese authorities will eventually intervene to stabilize domestic financial markets in the event of a major default by Evergrande.” However, it may initially tolerate a temporary deterioration in financial conditions.
Evergrande concerns plunge stock markets: investors need to know about Chinese real estate giants:
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