SHANGHAI, March 30 (Reuters) - China has circulated plans to introduce credit-default swaps (CDS) and other derivatives so investors can hedge risk in its $7.5 trillion bond market, sources said, a sign regulators want to allow more defaults without destabilising the market.
Sources said that the China’s National Association of Financial Market Institutional Investors (NAFMII), a state-controlled body, has been considering the idea since December as an upgrade to its rarely used credit risk mitigation (CRM) market.
NAFMII declined to comment when contacted by Reuters.
China’s campaign to slim down its bloated industries, many of which carry heavy debts, has already left some firms struggling to meet bond payment deadlines at a time when they also face the pressure of slowing economic growth and falling prices for many of their goods.
But if Beijing wants manufacturers to move up the value chain, it needs to deliver on promises to reduce industrial overcapacity and make sure credit is given to more productive enterprises, economists say.
“We really need effective derivative tools for risk management and diversification,” said one person who attended a meeting organised by NAFMII to discuss the plan in December.
For years, China’s bond market has worked on the assumption that the government would not allow a default. Issuers were effectively guaranteed by the state.
However, China began in 2014 to cautiously allow bond issuers to default. While many in that year were subsequently bailed out - to widespread criticism by advocates of financial market reform - most firms that have failed to make payments on time in the past year have yet to be rescued.
“The zero default policy has been broken,” said the person who attended the NAFMII meeting.
The sources said NAFMII had circulated a draft document for feedback.
The CRM market has existed to allow hedging against defaults. Given the lack of defaults, it has been rarely used and was widely seen as symbolic.
The sources said NAFMII is considering the use of CDS and credit-linked notes (CLNs) to effectively replace the CRM tools. (Reporting by Bi Xiaowen and Pete Sweeney: Editing by Neil Fullick)
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