Signage at a residential project developed by Country Garden Holdings Co. in Baoding, Hebei province, China, on Tuesday, Aug. 1, 2023.
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JPMorgan raised its global emerging markets corporate high-yield default forecast, largely due to rising contagion fears in China’s property sector from a possible Country Garden default.
The U.S.-based investment bank raised its 2023 global forecast to 9.7% from 6% in a note dated Aug. 15. It also raised its Asia high-yield default rate forecast to 10% from 4.1% — that figure drops to just 1%, if China property is excluded.
JPMorgan expects China property to account for nearly 40% of all default volumes in 2023, followed by 35% from Russian corporates and 12% from Brazilian issuers.
The magnitude of the increase in JPMorgan’s default risk assessment underscores fears that a Country Garden debt default will have a far broader ripple effect on the Chinese property sector and the broader economy.
Country Garden has a far bigger and broader portfolio of developments than China Evergrande Group, which fell into default in 2021 and announced an offshore debt restructuring program in March.
China property debt crackdown
The Chinese property sector has been reeling since 2020, when Beijing cracked down on the debt levels of mainland property developers. Years of exuberant growth led to the construction of ghost towns where supply outstripped demand as developers looked to capitalize on the desire for home ownership and property investment.
These measures, known as China’s “three red lines” policy, point to three specific balance sheet conditions developers must meet if they want to take on more debt. The rules require developers to limit their debt in relation to the company’s cash flow, assets and capital levels.
The crackdown, though, has also weighed on growth since the sector directly and indirectly accounts for up to a third of economic activity in the world’s second-largest economy.
On Wednesday, official data showed China’s new home prices fell for the first time this year in July, falling 0.2% month-on-month and 0.1% from a year earlier, according to Reuters calculations based on National Bureau of Statistics data. This is the latest in a string of weak data that point to faltering growth and leading to calls for policy support.
Country Garden, which used to be one of China’s largest developers, has until early September to make coupon payments it missed Aug. 7 on two dollar notes. Last week, it also suspended trading in 11 domestic bonds and issued a warning that it expects to post a half-year annualized loss of up to 55 billion yuan ($7.5 billion).
In the same note, JPMorgan said a Country Garden default could add $9.9 billion to the year-to-date global emerging markets high-yield corporate default tally, taking the total default volume for the Chinese property sector to $17 billion to date in 2023.
JPMorgan estimates a Country Garden default could also lead to $8 billion worth of defaults among remaining smaller Chinese property developers, and another $2 billion for “some liability management exercise” from a spillover to other Chinese high-yield sectors.
Over $100 billion of China property bonded debt has defaulted over the past two and a half years, according to JPMorgan. Prior to Country Garden, China’s property sector already chalked up $109 billion in defaults since the beginning of 2021, which is 94% of total defaults in Asia during that period.
JPMorgan also raised its default rate forecast for Latin America to 7.1% from 6.6% after Brazil’s Odebrecht Engenharia e Construcao appears to be embarking another round of debt restructuring that could affect $1.9 billion in dollar-denominated bonds.
The bank raised its default forecast for emerging Europe to 23.4% from 15.7%, to reflect the inclusion of Russian corporate bond defaults, which were mostly “technical” since sanctions from Russia’s war in Ukraine prevented firms getting bond payments to international investors.
— CNBC’s Ganesh Rao contributed to this report.