China money rates plunge despite looming bond default as traders see mixed signals

Fri Mar 7, 2014 12:37am EST

* Chaori solar posts China's first public domestic corporate
bond default
    * Bond yields rise but money rates slide
    * Traders suspect Beijing easing off on previous attempts to
push rates up
    * Current extraordinarily accommodative conditions not
expected to endure

    By Pete Sweeney
    SHANGHAI, March 7 (Reuters) - China's money rates dove this
week despite fears that the country is set to suffer its first
public corporate bond default, with traders saying Beijing's
behavior suggests it is abandoning an earlier tightening policy.
    Yields on corporate and enterprise bonds pushed higher after
loss-making Chinese solar equipment maker Shanghai Chaori Solar
Energy Science and Technology Co Ltd warned it could
not meet bond interest payments due on Friday. 
    This would mark the first public corporate bond default in
China, an event long anticipated by economists but long delayed
as local governments continued to bail out at-risk firms.
    Highlighting concerns that Chaori is only the first of a
wave of similar firms set to default, five-year AA-rated notes
rose 8 basis points (bps) to 7.77 percent, the biggest increase
since Nov. 15, ChinaBond data showed.
 <0#AA-MT-CFSYBMK=> 
    But money markets took the news in stride.
    Rates rose abruptly on Thursday in reaction to the
announcement, but subsequently plunged below 3 percent when the
People's Bank of China signalled it would allow liquidity to
remain in the market by conducting only a mild drain during open
market operations on Thursday, trader said. 
    Markets also took heart from statements made during the
National People's Congress earlier in the week.
    Premier Li Keqiang formally committed the government to
maintaining GDP growth at 7.5 percent in 2014, which traders
said implied that Beijing had backed off from plans to suppress
credit growth through pressure on short-term rates.
    In the past, the PBOC has signalled it was ready to play
hard ball in money markets to put pressure on shadow banking and
sloppy lending, resulting in multiple, extraordinary spikes in
2013 and in January which at one point saw short term rates as
high as 30 percent.
    These combined factors helped drive the weighted average of
the benchmark seven-day bond repurchase agreement 
down 114 points into extremely comfortable territory over the
course of the week, sinking to 2.5 percent on Thursday's close.
It extended the decline on Friday to average 2.37 percent -- its
lowest level since mid-2012.
    The 14-day repo also slid over 71 bps, but the overnight
repo was relatively stable, rising slightly by almost 15 bps
points to 1.98 percent.
    However, the PBOC has remained typically vague on its
monetary policy -- having never explicitly committed to
tightening or loosening -- and some traders fear the current
warm conditions may not last.
    "The net drain this week was mild, but markets are still
moderately cautious," said a trader at Changjiang Securities in
Shanghai.
    "We can see from the restart of the 28-day repo tenor that
the PBOC is not planning to allow the currently loose conditions
to continue."
    Some traders also suspected the easing was a temporary
measure to provide an optimistic background for the recently
concluded National People's Congress.

SHORT TERM RATES: 
 Instrument       RIC              Rate*    Change (weekly,
                                            bps)**
 1-day repo       CN1DRP=CFXS         1.98             15.29
 7-day repo       CN7DRP=CFXS         2.37            -114.7
 14-day repo      CN14DRP=CFXS        3.02             -71.2
 7-day SHIBOR     SHICNYSWD=          2.40            -112.6
 

*The volume-weighted average price (Vwap) at midday Friday
** Compared to the Vwap at market close the previous Friday
 
KEY INTEREST RATE SWAPS:
 Instrument             RIC          Rate     Spread (bps)
 2 yr IRS based on 1    CNABAD2YF=    3.0228                 2
 year benchmark *                             
 5 yr 7-day repo swap   CNYQB7R5Y=    4.6584               166
 1 yr 7-day repo swap   CNYQB7R1Y=    4.4217               142
 *This spread can be seen as a proxy for forward-looking market
expectations of an interest rate cut or rise.                

GOVERNMENT BOND FUTURES    
 Instrument       RIC      Rate     Change (weekly,
                                    bps)
 Jun 2014 5 yr    CTFM4      92.79            -18.78
 Sep 2014 5 yr    CTFU4      93.23             -7.66
       
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    MARKET DRIVERS
    - China eases Jan credit squeeze with cash, surprising
transparency 
    - Market braces for bouts of tight liquidity in 2014
 
    - Beijing eases corporate debt rules to offset crackdown
 
    - China corporate financing squeezed as reform plans spark
rate spike 
    
    DATA POINTS
    - Fiscal deposits drive interbank liquidity trends GRAPHIC:
link.reuters.com/pem75t
    - Maturing central bank bills and repos upcoming GRAPHIC: r.reuters.com/vyr95t
    - Chinese government bond curve rises on rate reform
expectations GRAPHIC: link.reuters.com/jyr95t
    - China's interest-rate swap curve rises, flattens on
liquidity fears GRAPHIC: link.reuters.com/ryr95t
    - China corp bond spreads widen on risk aversion GRAPHIC: link.reuters.com/bas95t
    - China hot money tracker: Large hot money inflows to China
in late 2013 GRAPHIC: link.reuters.com/saz74t   
    
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 (Additional reporting by the Shanghai Newsroom; Editing by Kim
Coghill)
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