China’s great deleveraging – You read it here first, folks
Asia Unhedged reported last week that a shift to equity from debt financing would reduce corporate leverage in China and reduce the much-exaggerated debt problems of Chinese companies. Unlike the U.S., where rapid debt buildup was the cause of the 2008 crisis, China’s debt expansion was a response to the 2008 crisis, insulating China’s economy from the global Great Recession. Now that the stock market has restored reasonable valuations to Chinese equities, mainland companies will opt for lower-cost equity financing.
Bloomberg News belatedly got the joke today:
As authorities show a newfound tolerance for defaults and debt levels at Shanghai Composite Index members climb to all-time highs, Chinese companies are increasingly tapping the equity market for funds to pay down liabilities and invest in growth. They’ve announced $82 billion of secondary stock offerings in 2015, a figure UBS Group AG predicts will increase to a record $161 billion by December. That comes on top of $10 billion already raised through IPOs.
Investor appetite for new shares has rarely been stronger after a world-beating rally in the Shanghai Composite added $4.4 trillion to China’s market capitalization over the past year. While the gains came too late to stave off the first defaulton domestic debt by a state-run company last week, officials at both China’s securities regulator and the central bank have endorsed the flow of funds into equities as a way to support an economy growing at the slowest pace since 2009.
Of course, the Chinese authorities have been talking about promoting equity financing as a replacement for debt for the past year. Once equity market valuations reached a P/E of 16 on the Shanghai Composite, the floodgates opened, as the earnings yield on equity fell below the interest rate on debt.