From Moneynews

Chinese authorities allowed the country’s first corporate bond default on Friday, inflicting losses on small investors in a painful step toward making its financial system more market-oriented.

Investors in bonds sold in 2012 by Chaori Solar Energy Science & Technology Co., a manufacturer of solar panels, were paid as little as 3 percent of the interest that was due Friday, according to two bondholders, one of whom said he put his parents’ savings into the bonds. The company warned earlier this week it had only 4 million yuan ($660,000) and faced an interest payment of 90 million yuan ($15 million).

Until now, Beijing has bailed out troubled borrowers to preserve confidence in its fledgling credit markets. But the ruling Communist Party has pledged to make the economy more productive by allowing market forces a bigger role.

Earlier efforts to stave off defaults by other borrowers with loans from state banks or other aid prompted complaints Chinese authorities were wasting money. Critics said investors should share in losses. The implicit government guarantee also meant bond interest rates didn’t accurately reflect investment risks, a key function of bond markets.

The timing of the default was highly symbolic, coming two days after Premier Li Keqiang, in an annual policy speech to China’s legislature, said markets would play a “decisive role” in allocating credit and other resources.

The ruling party usually tries to prevent politically sensitive developments during such high-profile events. Its willingness to allow Chaori’s default to go ahead suggested Chinese leaders want to make clear such events are routine.

Financial analysts have expressed concern about rising Chinese corporate debt as rapid economic growth slows and the government tries to cool a lending and investment boom.

Some companies also face pressure due to government efforts to reduce production capacity in industries in which supply exceeds demand, such as steel, cement and aluminum. That glut of supply has depressed prices, sometimes below production cost, causing heavy losses and in some cases forcing companies into bankruptcy.

Phone calls to Chaori’s headquarters on Friday were not answered. News reports earlier said many investors in the company’s 1 billion yuan ($160 million) bond issue were retirees and other individual buyers.

Small investors who want a better return than the low interest rates paid by China’s state-owned banks have flocked to corporate bonds and higher-risk investments such as securities backed by packages of credit card and other debt.

One investor in Chaori bonds, Wang Haorao, said he received a payment of just over 10,000 yuan ($1,600) on Friday, equal to about 4 percent of the 250,000 yuan ($42,000) in interest he received on the same date last year.

Wang, a researcher for a securities firm in the eastern city of Tianjin, said he invested more than 1 million yuan ($160,000) of his own money and 2.8 million yuan ($460,000) from friends and relatives in Chaori bonds.

“The stock market is unstable and the bank interest rate is just too low in China. That’s why we invested in the bonds,” said Wang, 33. “When I saw the announcement two days ago, I knew the worst was happening.”

China’s solar equipment industry has suffered heavy losses due to a glut of production capacity that led to price-cutting wars.

The manufacturing unit of China’s biggest producer of solar equipment, Suntech Power Ltd., was forced into bankruptcy court protection last year after it missed a $541 million debt payment.

Another bondholder, a civil servant in the eastern city of Zibo who would give only his surname, An, said he invested 1 million yuan ($160,000). He said that on Friday he received 3,000 yuan ($500) of the 90,000 yuan ($15,000) he was owed.

“The money is from my parents. The complained about the low interest rate from banks,” said An. “They had no idea about the whole situation until now.”

On Thursday, an official of China’s securities regulator, Ouyang Zehua, was quoted by state media as saying Chaori’s looming default was a “typical market-oriented event.”

Expecting companies to be bailed out “is plainly against the spirit of a maturing market economy, and simply unsustainable,” said a commentary by the official Xinhua News Agency.

The Chaori default might make investors wary of bonds issued by other companies, said Zhang Qi, an analyst at Haitong Securities in Shanghai.

“It could be harder for other small companies to raise money,” said Zhang. “Financing costs might be higher and they might need to pledge more collateral to raise the money.”

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http://www.moneynews.com/Markets/China-corporate-bond-default/2014/03/07/id/556597#ixzz2vIzg6bpF

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