Reasons why we don’t expect a sharp increase in China onshore default

Reasons why we don’t expect a sharp increase in China onshore defaults

China onshore default risks remains manageable. In-depth understanding of an issuer's creditworthiness is paramount in managing default risk.

The onshore renminbi market gained global credibility under extreme pressure from Covid-19. It was the only large bond market that avoided a liquidity crunch, and we believe the risk of a systemic credit crisis in China is very low. In our view, the current default outlook reflects the slower pace of credit expansion, which may support a more stable, less debt-intensive economy going forward.

In early 2018, deleveraging removed the lowest quality credits in China. This year, the disruptions triggered by the coronavirus imply a possible uptick in defaults, but we believe a systemic event is unlikely due to the following reasons:

  • Strong policy response by the Chinese government – including the sizable injections of liquidity and targeted stimulus that protects areas of strategic importance
  • Chinese credits have much lower exposure to sectors vulnerable to a global slowdown, such as oil and gas.

What about the default risk compares with other asset classes?

The chart below shows the relatively benign forecast for Chinese onshore defaults compared to other asset classes.

Staying in business
Projected default rates for various asset classes, August 2020

Staying in business

All chart projections are for 2020, as of August. J.P. Morgan projects that EM sovereigns defaults may reach 19% by year-end 2021. Source: Data and projections are from J.P. Morgan except for China onshore HY (high yield), which is based on BlackRock calculations

Unlike the U.S. credit market, where private corporates dominate, the onshore Chinese credit market is mainly about government-related credits, which also helps to explain the lower expected default rates in the onshore market.

We believe credit differentiation offers an opportunity to enhance returns, and our in-depth credit analyses of issuers is key to estimate risk and reward tradeoffs. We seek to deepen our understanding of company-specific fundamentals, and generally prefer those with strategic and social importance to the state.