China's latest default warning takes shock factor to extreme

Zhenro has become the latest developer to warn it may not meet its obligations. PHOTO: REUTERS

BEIJING (BLOOMBERG) - Only seven weeks ago, Zhenro Properties Group looked like a rare beacon of strength in a Chinese real estate industry reeling from an unprecedented stretch of defaults.

The company had just announced plans to redeem a perpetual bond and boasted that one of its units had secured a 9.14 billion yuan (S$1.94 billion) credit line from state-owned Bank of China. Zhenro's short-dated bonds were trading near 80 cents on the dollar, compared with 17 cents for embattled property giant China Evergrande Group.

Now Zhenro has become the latest developer to warn it may not meet its obligations, an about-face that’s extreme even by the standards of an industry where negative surprises have multiplied over the past year. Its shares and bonds plunged on Monday morning (Feb 21). 

The company's sudden and mysterious slide into distress is raising investor anxiety towards many of its peers, undermining efforts by the Chinese government to stem financial contagion in a real estate sector that accounts for about a quarter of economic output. Speculation about a liquidity crunch at Zhenro helped spark a broad slump in Chinese developer bonds last week, driving up financing costs for companies that need to repay almost US$100 billion (S$134.6 billion) of debt this year.

Zhenro confirmed investors' fears late Friday (Feb 18), saying in an exchange filing that it may not have enough cash to meet its debt payments next month. The company is asking bond holders to waive any default claims that may arise from a failed redemption of its US$200 million perpetual note on March 5.

Shares of Zhenro tumbled as much as 17 per cent to a record low on Monday morning in Hong Kong. Its perpetual note is indicated down 8.6 cents on the dollar at 14.5 cents, leading declines among its other dollar bonds, according to Bloomberg-compiled prices. 

The development is the latest sign that China's property sector cash crunch is far from over. The yield on a developer-heavy index of Chinese junk dollar bonds climbed back above 20 per cent last week, making refinancing prohibitively expensive for much of the industry. Home sales have continued to plunge, crimping developers' main source of cash. Zhenro said on Friday that its sales had tumbled nearly 30 per cent in January from a year earlier.

The turbulence appears to be attracting more attention from the authorities. In a brief statement last Saturday, China's securities regulator vowed to prevent and resolve default risks in the bond market. The country will also deepen reforms related to debt issuance and open further to foreign investors, the China Securities Regulatory Commission said, citing a 2022 working meeting.

While Zhenro is tiny relative to Evergrande - ranking 30th among Chinese developers by contracted sales last year - the company's travails have had an outsized impact on the broader market because it had indicated so recently that its finances were sound.

Even as Zhenro's bonds were crashing on speculation it would fail to redeem the perpetual note, the developer dismissed reports about its offshore debt securities as "untrue and fictitious." While Zhenro blamed "adverse market conditions" for its debt woes in the Friday statement, it provided few details on why its financial position had deteriorated so dramatically since early January.

The episode may reinforce the "sell first, ask questions later" mentality that has taken hold among investors in Chinese property debt. Zhenro's perpetual bond sank to about 23 cents on the dollar from 93 cents in the span of a few days as rumors about a failed redemption spread, while its dollar note due in April dropped to about 25 cents from 77 cents. It took about four months for a similar-sized decline in Evergrande's shorter-dated dollar bonds last year.

Heightened concerns about a lack of transparency in China's property industry may drive some investors to avoid it altogether, Bloomberg Intelligence analysts wrote in a report last week.

"Bondholders with low risk appetite may not be able to stomach the extreme price volatility," the analysts wrote.

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