China securities regulator issues rules to curb convertible bond speculation

Last modified October 23, 2020. Published October 23, 2020.
An investor checks stock prices in a brokerage house in Beijing, China. (AP Photo/Mark Schiefelbein)

An investor checks stock prices in a brokerage house in Beijing, China. (AP Photo/Mark Schiefelbein)

China’s top financial markets regulator is drafting new regulations aimed at curbing “excessive” record speculation on convertible bonds, as Chinese firms and investors increasingly turn to the hybrid asset in search of liquidity and returns.

The on Friday revealed draft rules that would impose new liquidity and disclosure requirements for companies that issue convertible bonds, which offer returns that may be swapped for stocks in the issuer. It is seeking public comments on the proposed regulation.

Amid economic headwinds from the COVID-19 pandemic, Chinese firms raised roughly CNY 4.41 trillion ($659 billion) in each of the 57 convertible bond issues in the first half of 2020, Haitong Securities noted in July. According to the Beijing-based broker, the issues were about seven times greater than in the prior-year period.

The new rules would “further improve various systems of convertible corporate bonds, enrich corporate financing channels, prevent transaction risks and protect” the rights of investors, according to a translation of the commission’s statement.

The commission’s “draft for comment” contains eight chapters and 37 articles detailing existing procedures and requirements in place for other financial markets that would apply to the convertible bond market should the regulator advance its plan.

The new rules would treat convertible bond issues as a “major asset reorganization” and impose stipulations that are required of such deals.

Securities exchanges that facilitate new convertible bond issues would be required to create new trading rules based on the risks and characteristics of the bonds to “suppress excessive speculation,” the regulator said. Exchanges would also have to follow existing CSRC rules on “programmatic transactions.”

Investment firms and brokerages would have to verify the “suitability” of the issuer’s investors and encourage them to invest in the bonds “rationally,” the regulator said.

The commission also proposed rules that would “strengthen” the mechanisms for determining and adjusting the conversion price of bonds and require issuers to disclose the nature of the debt issue to investors.

Chinese regulators have watched this year’s surge in convertible bond issues with grave concern. In May, the Shenzhen Stock Exchange was forced to suspend trading in Jiangsu Huifeng Bio Agriculture’s convertible bonds after the company purported its second loss-making year in a row, raising fresh concerns over default risk.

The Chinese agrichemical producer warned in late April that it may not be able to pay back investors unless a large chunk of its notes are converted to stocks in the company before they mature in 2022, Bloomberg reported.

Boosted by lower-for-longer interest rates, convertible bonds saw record issues in markets across the world, garnering $92 billion in investments globally in the first half of 2020. U.S. firms raised $64 billion across 114 convertible offerings through June 30, and saw record issues totaling $20.7 billion in May, according to law firm Goodwin Proctor.

The CSRS proposal comes as Chinese officials roll out new reforms to shore up the country’s financial sector against another global financial crisis. In late September, the People’s Bank of China and the China Banking and Insurance Regulatory Commission introduced draft regulations that would impose higher loss-absorption requirements for Chinese banks that are “too big to fail.”