IFR: We mentioned swaps before. Is there a sweet spot there? Are there any limits?
Michael Lam: The swap market is developing, but, to get to a point that can support a large number of international borrowers, the pool just needs to be larger. Right now, Deutsche Bank would be very happy to provide a deliverable swap between dollars and CNH out to five years, and selectively out to 10 years. However, the bulk of the liquidity is focused on one to three years. Certainly, the market is there for Rmb1bn, but that’s not too big.
“Hong Kong can be more of a gateway to the international markets, and will get more liquidity.”
John Ho: I think Basel III is going to be another obstacle for the swap market.
Michael Lam: Oh, absolutely, but that’s an obstacle for the overall swap market. It’s already taking place – people are reducing their exposures on swaps, but that is any swaps, not just CNH.
IFR: When you look at the market infrastructure, is everything in place now? Does CNH Hibor have the potential to become a lot bigger?
Gina Tang: It’s certainly useful for the market to have a more established CNH Hibor setting. The TMA and HKMA have been working hard at it, but it’s not quite there yet. That’s why you see the currency swap is between dollars and CNH, but it’s not an interest-rate swap. However, Hong Kong has the infrastructure in place now. Most of the international banks have set up CNH teams in Hong Kong. We have the biggest team here, but also some capacity in London. It’s a positive sign for the development of Hong Kong as the centre of liquidity.
IFR: Francis, have you considered CNH for a floating-rate borrowing?
Francis Ho: It is one of the options that we look at, but the bond market can offer much longer tenors and a reasonable size at the moment. It all comes down to the terms. In some cases, banks may be able to offer more attractive rates on bank loans than in the fixed-rate market. So, a treasurer or CFO would need to look at it. We also need to come up with the right benchmark for that market.
John Ho: As an issuer, it all comes down to the cost, the tenor and the size. At the moment, it’s not really attractive.
IFR: As more Chinese companies come overseas, what are some of the overriding concerns over credit quality that investors need to look out for?
Chris Lee: We currently rate about 100 entities, most of them state-owned enterprises. SOEs are a different animal altogether, and the analytical approach is slightly different. They tend to be investment grades, but I think there is greater awareness that not all SOEs are equal, and you need to pay attention to who owns them, who is the ultimate parent – whether it’s the central government, a local government or the municipal government – and where they fall in the ranking within that local government. As you see more companies coming to the offshore market, you will start having non-investment-grade SOEs.
IFR: What has the response been from investors to the Greater China scale?
Chris Lee: As a generalisation, you could say that companies tend, at the moment, to be two notches higher on the Greater China scale than on the international scale. We are gaining some traction with both investors and issuers, but, like the local bond market, it will take time to get established.
IFR: Philip, if you’re issuing bonds in the international market, are the risks really the same as issuing them in domestic China?
Philip Li: We haven’t rated any bonds since we set up in Hong Kong only a couple of months ago, and we still need to put some infrastructure in place. However, definitely the scale that we will use will be different from the scale in the domestic market. Having said that, another question comes up: which scale is more reflective of the true credit quality? The S&P one, or the China Chengxin domestic one? That is a joint venture with Moody’s, but the ratings cannot be compared with Moody’s international ratings: the same issuer may be six notches different.
“You have to look if it’s support from the central government, or local government, or a city government that can’t even pay its own bills, let alone bail out an SOE.”
One interesting phenomenon is that no public bond issue in China – from Triple B to Triple A – has defaulted. No bond issuer has defaulted, although there have been defaults in bank loans. That means the banks have to bail out those corporations. I would say that, in China, that’s why the domestic credit rating scales are ‘looser’ in a sense: you put more weighting on the qualitative analysis and less on the quantitative analysis. That’s why we have had criticism in the past that the international rating agencies do not understand the true Chinese situation. That has to change if the renminbi is to be more international and if more companies issue bonds in the domestic market.
The perception of credit is very different between international and domestic investors. In the domestic market, investors trust the government policy very much, but, in the international market, they may put more weight on the fundamental analysis.
Governance is also a burning issue for Chinese corporations, especially after reports such as the Muddy Waters’.
Chris Lee: I think one of the ways to make the analysis more accurate is to ensure the qualitative part does reflect the conditions in China. As China is different – very different – from other developed markets, the approach should be to have an assessment of credit quality that is globally consistent, and then an extraordinary government support angle that reflects these conditions. The majority of SOEs do get an uplift above their standalone credit quality, but you have to look if it’s central government support, or if it’s the support of the local government, somewhere in Guizhou, a really poor province, or a city government that can’t even pay its own bills, let alone bail out an SOE.
John Ho: Let me say something about our experience. In Hong Kong, we have a high Single A rating. In China, S&P gave us a domestic rating of AAA. In China, it doesn’t really matter. It’s something nice to have, but our experience is, when you talk to the banks, they want guarantees – either in assets or shareholder guarantees. If you give them these two things, it can improve the cost, the tenor and the size. The other thing I want to add is that the bond market in China is not there yet. We have been looking at five- or three-year bonds, but it’s pretty difficult. So, really, getting a rating today doesn’t help much.
Philip Li: Well, without a rating you cannot issue a bond in China. That’s a regulation.
John Ho: True. What we’re doing now is engaging someone to give us a rating, but we actually see a lot of difference in terms of the integrity of the agency from China and overseas.
Philip Li: You’re in the private sector and, if you were an SOE, it would be very different. You could have a bank lending you money that you then deposit back with it, or even lend to other companies. Those relationships are intermingled and you end up with the kind of cross-shareholdings that were a problem in Japan.
Chris Lee: When interest rates rise, will that differentiate the credit quality? Will we see defaults come through?
Philip Li: It’s a diplomatic type of thing. There is a process and it will take time for the market to mature. The problem is we don’t know what phase of the process we are in now.
Francis Ho: Hong Kong companies will face a big challenge even if the onshore market is liberalised. Hong Kong companies are well known in the city and, in some of the western markets, but, in the Chinese market, Philip has given us a reminder that investors and rating agencies look at credits with different views. We are not a SOE and we don’t have connections to the Chinese Government. We may believe we have a better credit profile, compared with many other companies, but how should we compare ourselves? I think that will be a big challenge, and it will take a long time and probably a few test cases before we use the onshore market in the same way that we are now using the regional currency or US-dollar market to help our funding.
Ivan Chung: In Dim Sum, many issuers are shareholders with an opco in China. The government may bail out a company in China, but what about the offshore market? That’s why, even for SOE, we take into account the government support, but there are different levels. We still have a base credit analysis and, on a standalone basis, some SOEs are not investment grade. It’s different from the local scale in that aspect. In the offshore market, cross default is very common, but, in China, there’s no cross default. From our perspective, if they default on a loan, but not a bond, it’s still a default. In the Dim Sum market, we’re going much more towards the international standard.
“It will take time for the market to mature. The problem is we don’t know what phase of the process we are in now.”
IFR: Is there an argument that a Chinese issuer could get a higher rating in Dim Sum than in US dollars?
Ivan Chung: The first thing is the offshore/onshore concept. If they repatriate the proceeds in the form of equity in the opco, then there’s still the structural subordination issue. It’s not the currency we rate, but the credit risk.
Chris Lee: I think what is lacking is the concept of default in China. Maybe, it’s deliberately vague because, as Philip pointed out, bank loan default is much more common and, sometimes when it happens, we don’t know because it’s bilateral – there’s no report in the newspapers or IFR. So, the definition is not standard.
Philip Li: There is a central credit data bank in China, where a bank can check if a company has ever defaulted with another bank – just like in Hong Kong. Of course, the bank’s policy may be not to lend to a company that has had such a bad experience, but, in reality, it can be different.
Angus Hui: One question for the rating agencies is on their rating methodology. One way is looking at the standalone rating and factoring in how much potential support will increase it. However, it’s difficult to have a standalone rating to start with because some of the very large SOE issuers won’t exist without government support. With an enterprise, in some cases, it might make sense to look at the credit and do the government uplift, but, in a lot of cases, the Ministry of Railways, for instance, it wouldn’t exist without the government. So, how do we adjust for that?
Chris Lee: Well, the Ministry of Railways is an arm of the government, not a company. So, it should be sovereign rated, regardless of the credit profile. There’s no question. However, if you had a subsidiary of an SOE, for example PetroChina in Hong Kong, what should the rating be? In this case, it is twice removed from the central government. Then, I think the methodology of having a standalone credit profile makes sense. We make a distinction between extraordinary and ongoing support, because ongoing support like tax breaks, capital injections and subsidies, is factored into the standalone credit profile.
