“We have been hearing more headlines about defaults in the onshore bond markets. That’s normal. We will hear more about that in the next couple of years because China needs to de-lever, Collins told FSA.
“We have to see some of these weaker companies, perhaps default, restructure, perhaps leave the market and the industry. And that’s part of the reduction of capacity and the supply-side reform.”
In the first four months of the year, Chinese enterprises have defaulted on 22 bonds, exceeding the 21 defaults reported for the full year 2015, after the government started to normalise the pricing of bonds issued by state-owned enterprises.
“Companies with poor credit profiles pay [the consequences]. That allows efficient companies, SOEs and private enterprises to have good access to funding and to operate efficiently. That adjustment is a multi-year process.
“Default is actually a healthy thing as long as it is done in a controlled way. Bad companies and over-leveraged companies need a way to delever,” he said.
His comments were in contrast to the cautious tone from Nikko Asset Management, which believes that China’s onshore bond rout could spread to the offshore market. The China Securities Regulatory Commission has recently warned leading bond underwriters to manage the risk of default with extra care.
Easing RMB pressure?
Collins believes that the RMB will not face significant devaluation pressure, as interest rate divergence between China and the US has been narrowed.
“If the US Federal Reserve is trying to raise rates, and China is actually cutting rates, it is not surprising to see a little bit of divergence in the currencies.”
But the Federal Reserve has scaled back initial plans to raise rates and the number of hikes in 2016 remains uncertain while China has paused its rate cuts.
“You have an environment where China is not aggressively easing monetary policy at this stage and the US isn’t aggressively trying to tighten monetary policy, and that helps provide stability for the currency versus the dollar in particular,” he said.
He expects the RMB is to see some modest devaluation pressure, perhaps a few percentage points. “We have to build that into the volatility that we have, but the medium- and long-term driver is still really supportive.”
While it has no specific benchmark index, the Fidelity RMB Bond Fund has been trading in a similar pattern as the Citi Dim Sum (offshore CNY) Bond Index over the past three years, according to FE Analytics.
The fund has been underperforming the FTSE Global Government Bond Index since February.