March 12, 2014

Default Will Lead To Default

A report from the Sydney Morning Herald. “Fears of a slowdown in Chinese economic growth continue to bubble to the surface, with the price of iron ore, Australia’s most valuable commodity, plunging to an 18-month low. But there are other factors at play that have contributed to the plummeting price. The sharp moves are caused by deleveraging to the extent that iron ore has been collateral for financing arrangements, said Deltec chief investment officer Atul Lele. The sharp moves are caused by deleveraging to the extent that iron ore has been collateral for financing arrangements, said Deltec chief investment officer Atul Lele.”

“‘Financing deals being unwound due to lower iron ore prices are driving lower iron ore prices, which is driving collateral values lower and necessitating further financing deals having to be unwound. Iron Ore prices don’t fall 8.3 per cent in one day due to slower Chinese growth. They fall because of a credit event,’ Mr Lele said.”

From Reuters. “China’s first domestic bond default has brought to the fore investors’ fears that financing deals that have locked up vast quantities of copper could unravel and erode one of the market’s main underpinnings. China is the world’s top user of copper, but much of its imports are used as collateral to raise funds, which are then loaned out into China’s shadow banking sector to earn higher yields. A lot of that money has been used to invest in real estate.”

“While no analyst or trader Reuters spoke to could give a definitive figure for how much copper is tied up in financing deals due to the opaque nature of the market, they estimated 60-80% of imports could be due to financing demand. On the ground, traders are finding it tough to get credit in a market where prices are falling. ‘Right now it is very difficult for clients to issue an LC (letter of credit) to import copper because the bank loan is very tight. Also if you import the copper in China you will lose a lot of money,’ said one trader in Singapore.”

From FX Street. “According to Peter Fell from FXBeat: ‘Speculation is that a small steel mill in China may have defaulted last Friday and that iron ore traders were forced to liquidate stocks to repay loans secured by iron ore.’”

“Argus site reports: ‘It is not China’s first bond default by a solar panel company last week that has set off credit worries in the steel sector, it is the potential first default of a steel mill on 7 March that is symptomatic of the industry.’ Argus cited the analyst adding: ‘Right now no one knows where demand is or where to set it at, and you have this reverberation going on that default will lead to default… I think the mills are already defaulting, there is no question about that,’ an international trader cited by Argus said. ‘Now what gets interesting is where do we go from here?’”

“Lastly, a China-based international trader said: ‘Those mills or traders that used iron ore as collateral to borrow money from banks, they have to cash out their stock and repay the bank.’”

Radio Free Asia. “On Feb. 24, shares of major property developers dropped sharply following reports that started after Shanghai Securities News reported that China’s Industrial Bank Co. and other lenders ‘may have stopped extending loans to property developers,’ according to Reuters. Reports also cited an internal memo to Bank of Communications branches, ordering a suspension of real estate lending, the official English-language China Daily said. The banks issued denials, but the market reaction had already begun.”

“It is unclear whether the tougher stance toward the fledgling bond market will be reflected in credit policies for housing developers, but state banks are still seen as well-prepared to backstop the financial system. ‘The Big Four banks supply the funds ultimately that go through the shadow banking system, including investments by developers in real estate projects,’ said Harvard University economics professor Dale Jorgenson. The big gap between decontrolled lending rates and controlled deposit rates has made the banks ‘very, very strong,’ said Jorgenson, calling China’s system ‘a license to print money.’”

“In December, the former chief economist of the National Bureau of Statistics (NBS) made a now-famous comment on the ease with which the banks have enriched themselves. ‘With this kind of operational model, banks will continue making money even if all the bank presidents go home to sleep and you replaced them by putting a small dog in their seats,’ said Yao Jingyuan, as quoted by the South China Morning Post.”

The Global Times. “On roads near the World Trade Center subway station in Beijing’s Central Business District, there are often people presenting housing flyers to passersby. ‘Do you want to look at a home in Yanjiao? We have a free shuttle bus for that,’ they say.”

“With no house-buying restriction policies, cheaper prices and a relatively convenient location, Yanjiao is attracting more and more people who want to buy a home near Beijing. Ge Lili, a 27-year-old employee at a newspaper, was one of the early buyers of a new apartment in Yanjiao. She bought a 92-square-meter apartment in September 2011 at a price of 9,200 yuan ($1,498) per square meter. ‘The main reason I bought a house there is the homebuying restriction policies in Beijing,’ Ge told the Global Times.”

“Ge said that the number of people actually living in her community is about 30 percent so far, although nearly all the houses there have been sold. ‘Half of the housing in Yanjiao is for investment,’ said Zhang Dawei, research director at the Beijing office of real estate consulting firm Centaline Property, but he is not optimistic about the investment future in the town.”

“However, estate agent Wang Kai said that now is still a good time to buy property there, as the government is expected to launch more policies to support the development of Yanjiao. ‘The housing price will definitely get higher and higher,’ Wang said.”

From CNBC. “China is planning a national property tax to rebalance the sector, with the blessing of many industry players. ‘Up until now, if you own a property in China, there’s no holding cost. If your home is sitting there empty — you’re not using it, you’re not renting it out — there’s no penalty because you don’t really feel hurt,’said Zhang Xin, CEO of commercial property developer Soho China. ‘There’s so many buildings being built and not really being occupied and not being utilized and so (introducing) the property tax will deal directly [with] that.’”

“Occupancy data are hard to come by. In 2010, Chaoyang, Beijing’s largest district, released data showing 1.33 million square meters of residential space was sitting vacant, with over half empty for at least three years, although it wasn’t clear if the housing was unsold or unoccupied after being sold. At the time, media reports said there were 64.5 million urban electricity meters registering zero consumption over a six-month period, but power companies denied the figures.”

From Quartz. “Yang You, the director of the board for Huaxia Pawnshop in Beijing, helps oversee high-ticket pawning at one of the oldest, largest and most luxurious pawnshop enterprises in the city. This outfit helps small and medium-sized enterprises (SMEs) realize their ‘Chinese economic dreams.’ Banned during the more than three decades of communist rule from 1956 to 1987, pawnshops are making a comeback today in China as many SMEs are pawning apartments and cars—even at high interest rates—as they’re finding it difficult to get loans from the banks. ”

“At Huaxia, apartments are the most commonly pawned item, luxury vehicles the second, and jade, expensive stones and watches make a close third. Half of Huaxia Pawnshop’s customers are business owners pawning their Beijing apartments. These high-ticket loans invite huge interest rates. Huaxia charges 3.525% interest per month on property.”

“So the spirit of unregulated borrowing and lending continues. Today, shadow lending is the fastest-growing part of China’s financial sector, and JP Morgan Chase estimated that it accounted for 69% of China’s GDP—or 36 trillion yuan ($5.9 trillion)—in 2012. ‘It’s a conduit for economic growth,’ said Ismael Pili, head of financial analytics Asia at Macquarie Group. ‘But it’s not very well regulated, and there’s emerging risks.’”

Bits Bucket for March 12, 2014

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