BlackRock sees yuan depreciation as wakeup call for China debt hedging

The yuan's depreciation is a wakeup call for Chinese companies that rarely hedge overseas debts, according to BlackRock Inc and Aviva Investors Global Services Ltd.

China's second-biggest steelmaker Baosteel Group Corp, its largest auto rental company Car Inc and developer Country Garden Holdings Co said they are considering hedging after the Aug 11 depreciation. Rising demand pushed up the cost of such trades, with the extra interest payments to lenders of yuan in five-year cross-currency swaps jumping 0.53 percentage points in two weeks to 3.18 percent.

"Until recently lots of Chinese companies had regarded the dollar-yuan exchange rate as a one-way bet, therefore there was little need to hedge," said Tim Jagger, a Singapore-based portfolio manager at Aviva. "Clearly that relationship has changed and companies now need to do more hedging. But hedging costs have also gone up, so I expect only more conservative management will do that."

Companies already face more than $17 billion in extra costs on overseas liabilities after the yuan slid 3.3 percent the past month, according to calculations based on Bloomberg data. JPMorgan Chase & Co forecasts further declines of up to 5 percent in the currency in the next 12 months.

"We will focus more on foreign-exchange rate risk management and will make more use of foreign exchange management tools including spot, forwards and financial derivatives to hedge," said Chen Ying, vice-president in charge of corporate finance at Baosteel. "We will also adjust settlement currencies for imports and exports to reduce foreign-exchange risks."

Car Inc is also seeking short-term hedging for interest payment of offshore debt, mostly through forwards, according to its chief financial officer Wilson Li.

Country Garden's investor relations manager Ma Ziling also said the company will closely monitor its forex status in the future.

Costs for forwards or swaps can be as high as 3 percent, according to Gregory Suen, investment director, fixed income at HSBC Global Asset Management Hong Kong Ltd.

Twelve-month non-deliverable yuan forwards traded at a 4.7 percent discount to the spot rate on Aug 24, the most since December 2008. One-year implied volatility, a measure of expected moves in the exchange rate used to price options, jumped 470 basis points since the devaluation to 7.655 percent.

"The recent yuan volatility will be a call for Chinese companies with significant foreign debt or imports to start focusing more on hedging," said Suanjin Tan, portfolio manager for China bonds at BlackRock in Singapore. "Any competent business manager would want to hedge if there is significant mismatch between revenue, cost and liabilities."

The currency mismatch is the most evident among Chinese developers following restrictive onshore borrowing rules. Their forex assets cover less than 25 percent of foreign liabilities, according to Bloomberg Intelligence.

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