A year after China's financial regulators squared up to the systemic perils of "shadow banking", the threat is shifting to a booming corporate bond market, and risky borrowers' debt is finding its way into products aimed at retail investors.
An opaque network of trust companies and non-bank lenders had grown their annual market to a hefty 2.9 trillion yuan ($450 billion) in loans before regulators stepped in, spooked by rising defaults on wealth-management products backed by high-interest shadow lending of this nature, Reuters reported.
Now the high-risk borrowers who took those loans, such as unlisted real-estate firms struggling with a stagnant property market and financing companies backing shoddy local government investment, are finding a new avenue of funding after market regulators began allowing unlisted companies to issue bonds on public exchanges.
New corporate bond issuance leaped to 914 billion yuan in the third quarter, accounting for 29% of all new credit, up from 381 billion yuan and just 8% in the first.
And the profile of new borrowers looks strikingly like the patrons of the shadow banking set.
Of the 57 firms posting bond listing announcements in Shanghai in October, 23 were local-government-owned project or infrastructure investment firms.
The government engineered the freeing up of the bond markets as a transparent alternative funding route, and the credit crunch that followed its clampdown on shadow banking guaranteed a high take-up.
But wealth managers are now turning these bonds into leveraged high-yielding products and selling them to investors desperate for returns after a real-estate slump and the stock market crash that occurred over the summer.
Data from CN Benefit, a research firm tracking wealth management sales, shows that 60% of new bank wealth-management products were linked to debt and money market instruments in September, up from less than half in the first quarter.
Demand is hot for these products, and the higher the yield, the higher the risk, which is amplified if the fund's assets are partly bought on credit, or leveraged.
Investors, however, assume that products that are offered by big names remain relatively safe.
Analysts say the narrowing corporate risk premium combined with weakening profits is a red flag for speculative activity.
"Similar to what happened in China's stock market earlier this year, the rally of bonds is largely driven by liquidity conditions and speculation that government will provide support when necessary," said Zhou Hao, senior emerging markets economist at Commerzbank in Singapore.
