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interest payments on bonds,impact on investors


Vehicles drive near unfinished residential buildings from the Evergrande Oasis, a housing complex developed by Evergrande Group, in Luoyang, China September 16, 2021.

Reuters This week’s first test will see if Chinese property developer Evergrande Group can pay its bond interest or go bankrupt.| Reuters

The first test for Evergrande’s debt crisis comes this week — investors will be watching to see if the embattled Chinese property developer is able to pay out its interest due on a bond, or default on it.

The firm is due to pay interest worth $83 million on Thursday, according to data from S&P Global Ratings.

Evergrande’s 5-year, U.S.-dollar denominated bond, had an initial issue size of around $2 billion, according to market data provider Refinitiv Eikon – although the price has plummeted now.

Refinitiv Eikon reports that the yields have risen to 560% from just 10% in January. It is scheduled to expire in March 2022.

The next Wednesday is the due date for another interest payment on a U.S. dollar 7-year bond.

CNBC’s Ray Attrill said that Thursday’s event “promises to be a pivotal event for markets one way or another, larger perhaps than the FOMC result which occurred only a few hours earlier,” referring to U.S. central banks meetings, which investors closely watch.

Analysts and market watchers largely expect Evergrande to miss the interest payment on Thursday. The company will technically not default, unless it doesn’t make it within the 30 day.

S&P Global Ratings said Monday that a default was “likely.”

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“Fact is, Evergrande is already in technical default having missed bank interest payment,” said Vishnu Varathan, head of economics and strategy at Mizuho Bank. He was referring to reports that the Chinese government told major banks that the real estate giant will not be able to pay interest on its loans that were due earlier this week on Monday.

Varathan, in a Tuesday note wrote that Evergrande is responsible for approximately 11% of the Asia-high-yield bond market. “With risk of missing a coupon bond coupon this week,” Varathan said.

Foreign investors, offshore bonds may be hit first

If these initial defaults happen, institutional and other foreign investors will likely be more affected compared to domestic investors in China, analysts said.

Onshore, dollar-denominated bonds in yuan may have priority over those that are offshore. While most offshore bonds are held by foreign or institutional investors, domestic investors in China have a greater likelihood of owning onshore bonds.

Varathan stated in an email to CNBC that the “opportunities of bond investors being paid when retail wealth managers product holders and homeowners are a long, far away from clarity, much less resolution” argument does not seem to sit well.

He stated that the case to treat the wealth management product retail investors’ obligations more favourably was strong given “the social stability angles” on the matter.

In some areas, protests from angry investors and homeowners have broken out over the past week. This raises concerns about social unrest.

Last week, around 100 investors turned up at Evergrande’s headquarters in Shenzhen, demanding repayment of loans on overdue financial products — forming chaotic scenes, according to Reuters.

The priority on domestic investors will therefore have implications on the default risks for offshore dollar-denominated bonds — mostly held by institutional or other foreign investors — versus onshore bonds, mostly held by domestic investors.

“An additional point of interest though is whether the coupon due on offshore bonds will get a less preferential treatment to onshore bond coupons — especially given the asymmetric arrangement whereby offshore default does not trigger cross-default (whereas onshore default triggers cross-default for offshore),” Varathan told CNBC. Cross default is when one default triggers in another situation, causing a wider contagion.

In other words, Evergrande will default on its offshore obligations while honoring its onshore promises? Varathan posed the question.

Varathan asked.

Morningstar Direct data shows that UBS and HSBC have been accumulating Evergrande Bonds over the past months.

Patrick Ge, Morningstar’s manager research analyst, said that there have been a few funds that added to China Evergrande bonds between July 2021 and August 2021 due to widening spreads, attractive valuations, and a number of other factors.

Morningstar has identified the top Evergrande bond-exposed funds.

  • Fidelity Asian High-Yield Fund
  • UBS (Lux) BS Asian High Yield (USD)
  • HSBC Global Investment Funds – Asia High Yield Bond XC
  • Pimco GIS Asia High Yield Bond Fund
  • Blackrock BGF Asian High Yield Bond Fund
  • Allianz Dynamic Asian High Yield Bond

CNBC’s Brittany Dawe contributed to this report.