China tightens collateral rules involving corporate bonds amid rising defaults

SHANGHAI (Reuters) - China has published rules barring the use of lower-rated corporate bonds as collateral in short-term borrowing in a bid to reduce financial risks.

FILE PHOTO: A man walks at the financial district of Pudong in Shanghai March 11, 2014. REUTERS/Carlos Barria/File Photo

The rules, which apply to the so-called repurchase agreement (repo) business in the exchange bond market, come amid rising corporate defaults and Beijing’s deleveraging campaign.

Starting April 8, newly-issued corporate bonds rated below AAA, or bonds sold by issuers graded lower than AA, cannot be used as collateral in repos, according to rules published late on Friday by state-owned China Securities Depository and Clearing Corp (CSDC).

Bonds issued on or before April 7 won’t be affected, according to the rules, which were published after soliciting public opinions.

The rules are aimed at “strengthening risk controls in the collateral-backed repo business, and promoting stable and healthy development of the exchange bond market,” CSDC said.

China has witnessed a surge in corporate bond defaults in recent years as the economy slows and the government steps up economic restructuring aimed at eliminating “zombie” companies in struggling sectors such as steel, coal, and shipping.

In 2017, over 5.5 trillion yuan ($797.36 billion) of corporate debts are due, meaning Chinese companies are under immense repayment pressure, as tighter monetary policies have increased companies’ liquidity risks, rating agency China Chengxin (CCXI) has predicted.

The rules, which could make borrowing more difficult in the exchange bond market, resonate with Beijing’s determination to reduce deleverage and ward off asset price bubbles.

Underlining the rapid build-up of leverage over the past year, combined turnover of repo trading in the Shanghai Stock Exchange nearly doubled to 216.49 trillion yuan in 2016, from 116.67 trillion yuan a year earlier.

($1 = 6.8978 Chinese yuan renminbi)

Reporting by Samuel Shen and Brenda Goh; Editing by Michael Perry