PENGYUAN INTERNATIONAL

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As participants in Pengyuan International’s recent Inaugural Credit Conference in Hong Kong made clear, with a more diverse range of investors rallying behind China credits (both onshore and offshore) and looking to forge connections with Chinese issuers, the demand for on-the-ground expertise is rising. This is particularly true given the sheer scale and unique dynamics of the Chinese credit landscape, which means the lessons learned in other markets may not always apply.

The ratings system is a good example. Ratings are of course critical to the operation of debt markets and investor decision-making, but global scale ratings, which the international investors are familiar, are absent in China. Meanwhile investors are largely unfamiliar with the methodologies and decisions of the ratings agencies from China, which though they may bear some resemblance to the international variety but are actually quite different. This leaves global investors at a loss for information, and issuers struggling to build credibility with a broader investment pool.

Local insight is the key to unlocking opportunity in a fast-changing market. Drawing on its parent company’s longstanding history in China’s onshore credit rating industry, Pengyuan International strives to address this need.

Who we are

Pengyuan’s story begins well before Chinese credits were on the radar of international investors, having been founded in 1993 as one of the first credit ratings agencies in Mainland China. We have since issued more than 40,000 ratings spanning all market segments, from corporate bonds to asset-backed securities (ABS) and trust plans, firmly establishing a position as the market leader. As of 2017 Pengyuan accounted for nearly one-third (32.9%) of the onshore enterprise bond market.

A major milestone was set in late 2016 when we introduced China Securities Credit Investment (CSCI) as a strategic substantial shareholder. CSCI’s shareholders include many of China’s top securities firms and the company has deep roots in the country’s capital markets, supporting their development with an extensive range of credit solutions. This partnership has allowed Pengyuan to leverage CSCI’s extensive resources and technological expertise.

Licensed by Hong Kong’s Securities and Futures Commission to provide credit ratings services since 2012, Pengyuan reached another landmark moment in 2017, when we began building out our highly seasoned international team with the aim of contributing to the development of cross-border finance, and acting as a bridge between China and the international capital markets.

From local know-how to actionable intelligence

As noted China’s credit universe is vast, multi-layered and complex. Domestic ratings agencies may have start with a ‘home-team’ advantage in understanding this market, but generating real insights on Chinese credits requires more than simply being local; agencies need to bring distinct capabilities to the process. From our point of view these include:

Knowledge: The experience built up through years of issuing ratings is vital, since it creates a body of knowledge that can shape future credit decisions more accurately. Given the scope of the Chinese market, is also important that this experience spans various regions and sectors. Pengyuan has issued ratings across 30 provinces and districts and has a team of over 100 seasoned analysts spanning the entire country.

Knowledge is enhanced by alliances. We have established a joint research institute with China’s Central University of Finance & Economics that focuses on local government-level investment, policy and funding developments, and have also participated in research for regulatory bodies and agencies like the Financial Society of Shenzhen.

Data: Data is foundational to the ratings process and a major source of verifiable insight on corporate trends and market developments. In a data-driven market, ratings agencies are many respects distinguished by the breadth, accuracy and quality of the data they use.

We’re supported in this regard by strategic shareholder CSCI, which has access to granular financial and operational data on tens of thousands of companies, as well as hundreds of thousands of financial products -- a resource other local and international agencies don’t have. We also recognise that non-traditional sources of data, such as news portals and social media feeds, can be a key and early source of information on corporate developments.

The real potential of data is achieved only when it is analysed and developed into competitive intelligence. This is why technology is a major priority for Pengyuan, and we are investing continually in infrastructure to improve the rating process and flag risks earlier.  

Perspectives: Local perspective is a powerful asset, but as international investors become a greater presence in China’s credit market and the funding strategies of Chinese firms, it becomes more important that this is combined with international expertise. This is the reasoning behind our commitment to growing our international operation based in Hong Kong, which currently has a team of 12 highly experienced analysts that is expected to double over the next two years.

These analysts have developed unique criteria and models to produce ratings that are filtered through well-established processes and systems to meet all relevant compliance requirements and minimise the possibility of human error. The result is information outputs that combine personal expertise with a consistent approach and level of quality. 

Disciplines in practice

The knowledge, data and perspectives Pengyuan has developed are applied in a variety of ways to generate insights on various segments of the debt market. However all opinions regardless of type are governed by the company’s general ratings principles.

These dictate that ratings are a forward-looking analytical opinion on creditworthiness, measuring that creditworthiness across regions, sectors and over time. The main factors in this measurement are both relative and absolute likelihood of default; recovery prospects for debt investors; and stability of credit quality over a time frame of one to three years. Ratings criteria are subject to regular stress testing and issuers are also evaluated on their ability to withstand appropriate stress scenarios.

The goal is to develop ratings that are consistent and comparable on the international level. However they should not be compared directly to national scale ratings, which are based on very different models and historical data, and developed only with reference to the domestic context.

Based on global scale methodologies, Pengyuan International’s ratings not only possess full applicability for global investors, they also capture a great deal of unique information on Chinese credit risks and opportunities. Following are some examples of our approaches in practice, as applied to different sectors of the credit market.

Local government financing vehicles (LGFVs): LFGVs are assumed to be relatively low-risk as they are thought by many investors to enjoy an implicit central government guarantee. However policymakers’ campaign to address risks in the financial system has called this view into question, and the credit strength of individual LGFVs should be assessed carefully.

This requires extensive data mining to accurately capture the fiscal strength of LGFV’s government owners, as the headline indicators communicated by some local governments are at times easy to ‘window-dress’ and sometimes overstated. GDP figures, for example, should be supplemented by data on disposable income from surveys juxtaposed with on-the-ground experience, to build a more accurate picture of local wealth. Fiscal revenues meanwhile, which can be inflated with special taxes, should be juxtaposed with fiscal balances. And rather than considering only direct debt, Pengyuan analyses local governments’ other debt-like payment obligations, which can include things like investment in not-for-profit projects. Beyond raw numbers, we also emphasize detailed analysis of government policies that have a major impact on LGFV creditworthiness, and factor these into our views.

Financial institutions: China’s financial sector has evolved at an extraordinary pace over the past few years to include new business models (such as online lending) but also more complexity and challenges. This means models of assessment of credit in the sector need to expand to match, considering both shot-term funding resilience and resilience to the government’s ongoing deleveraging drive.

Our assessments indicate a lack of liquidity may be a bigger near-term threat than declining asset quality. As smaller banks and credit cooperatives are generally more vulnerable to a liquidity crunch, any missed interbank payments by these institutions should be monitored closely as they may be an early signal of deeper systemic issues.  

Corporates: In evaluating the likelihood of corporate defaults, standard approaches tend to focus on financials and ‘top-down’ drivers such as changes in the policy environment. While these are important considerations, our methodologies factor in other ‘bottom-up’ factors such as corporate governance and changes in shareholder structure, which requires rigorous analysis of traditional and non-traditional data sources.

Past experience shows events such as contests over the control of a company, or a major shareholder being placed under investigation, can be predictors of default and have significant credit quality implications.

Asset-backed securities (ABS): The explosive growth of ABS in China means relevant data is at times limited and that there is often a lack of transparency regarding underlying assets -- particularly when those assets are non-performing loans (NPLs).

Our response has been to develop a comprehensive approach to the evaluation of NPL securitisation that applies portfolio, cash flow, interest rate and exchange rate models to assess current and future risks on all these fronts. Importantly the approach also incorporates qualitative data, such as information on the servicer’s business plans and track record; the legal structure and documentation of the transaction; and counterparty risks, in producing NPL securitisation ratings.     

Looking to the future

There is no doubt Chinese bonds poised to develop further and play a greater role in international capital markets, in line with the country’s growing presence on the global stage.

As direct lending promotes healthy development of the capital markets, we expect China to accelerate the opening of the bond market in 2018. On the other hand, rules enhancement around debt defaults will be part of policymakers’ push to mitigate and prevent financial risks. China’s ambitious Belt and Road Initiative, which will come with significant funding needs, is set to be a major source of debt market opportunities in the years ahead.[1]

As the market expands Pengyuan is determined to evolve with it, building our capacity to meet rising demands for insights based on advanced data capture and carefully tailored analysis, filtered through the lens of deep local knowledge and experience. Our main priorities in 2018 include:

Development of a complete core system of criteria that can be applied to sovereign and other ratings, as well as models for specific sectors like ABS and insurance, and more publications around these models and criteria to enhance transparency and enshrine the company’s methodologies.

More in-depth thematic research on China and Chinese credits, including comprehensive examinations of macroeconomic factors, key industries and selected credits, leveraging the company’s extensive local network and range of partnerships and alliances.

Additional outreach to both inbound and outbound investors to introduce our capabilities and support their strategies.

Publishing global-scale ratings on Chinese corporate and government debt. Beginning with dollar bond issuances, we will also explore rating yuan-denominated dim sum and panda bonds (bonds from non-Chinese issuers sold in China). Over the longer term we are aiming to developing our own global scale methodologies that will draw on our domestic and international criteria, resources and expertise.

Above all, our history has highlighted the importance of connections in understanding and accessing opportunities in the Chinese market, and in helping Chinese issuers and investors venture abroad. In the year ahead we will continue to play a role in building those connections where they may be lacking, and in empowering parties on both sides to act with confidence.

 

[1] http://www1.investhk.gov.hk/success-stories/credit-rating-agency-taps-on-the-tremendous-opportunities-from-belt-and-road/?am_force_theme_layout=mobile




DISCLAIMER
Pengyuan Credit Rating (Hong Kong) Company Ltd (“Pengyuan International”, “the Company”) publishes credit ratings and reports based on the established methodologies and in compliance with the rating process. For more information on policies, procedures, and methodologies, please refer to the Company’s website www.pyrating.com. The Company reserves the right to amend, change, remove, publish any information on its website without prior notice and at its sole discretion.

The information herein does not constitute a commitment by the Company to assign a credit rating or to provide any other services.

Any information herein was prepared for the benefit and internal use by anyone to whom it is directly addressed and delivered and does not carry any right of disclosure to any third party. All information herein is for discussion purposes only and should be completed with the oral briefing provided by the Company. The information herein is subject to change and should be regarded as indicative and for illustrative purposes only.
The Company prohibits its employees from offering, directly or indirectly, a favourable credit rating, or offering to change a credit rating, to a client as consideration or inducement for business development purposes or for compensation. The Company also prohibits its rating analysts from being involved in any fee discussions.
All credit ratings and reports are subject to disclaimers and certain limitations. CREDIT RATINGS ARE NOT FINANCIAL OR INVESTMENT ADVICE AND MUST NOT BE CONSIDERED AS A RECOMMENDATION TO BUY, SELL OR HOLD ANY SECURITIES AND DO NOT ADDRESS/REFLECT MARKET VALUE OF ANY SECURITIES. USERS OF CREDIT RATINGS ARE EXPECTED TO BE TRAINED FOR INDEPENDENT ASSESSMENT OF INVESTMENT AND BUSINESS DECISIONS.
CREDIT RATINGS ADDRESS ONLY CREDIT RISK. THE COMPANY DEFINES THE CREDIT RISK AS THE RISK THAT THE RATED ENTITY MAY NOT MEET ITS CONTRACTUAL AND/OR FINANCIAL OBLIGATIONS AS THEY BECOME DUE. CREDIT RATINGS MUST NOT BE CONSIDERED AS FACTS OF A SPECIFIC DEFAULT PROBABILITY OR AS A PREDICTIVE MEASURE OF A DEFAULT PROBABILITY. Credit ratings constitute the Company’s forward-looking opinion of the credit rating committee and include predictions about future events which by definition cannot be validated as facts.
For the purpose of rating process Pengyuan International obtains sufficient quality factual information from sources believed by the Company to be reliable and accurate. The Company does not perform an audit and undertakes no duty of due diligence or third-party verification of any information it uses during the rating process. The issuer and its advisors are ultimately responsible for the accuracy of the information provided for the rating process.
Users of the Company’s credit ratings should refer to the rating symbols and definitions published on the Company’s website. Credit ratings with the same rating symbol may not fully reflect all small differences in the degrees of risk, because credit ratings are relative measures of the credit risk.
NO WARRANTY, EXPRESS OR IMPLIED, AS TO THE ACCURACY, TIMELINESS OR COMPLETENESS OF ANY INFORMATION GIVEN OR MADE BY THE COMPANY IN ANY FORM OR MANNER. In no event shall the Company, its directors, shareholders, employees, representatives be liable to any party for any damages, expenses, fees, or losses in connection with any use of the information published by the Company.
Pengyuan International reserves the right to take any rating action for any reasons the Company deems sufficient at any time and in its sole discretion. The publication and maintenance of credit ratings are subject to availability of sufficient information.
Pengyuan International may receive compensation for its credit ratings, normally from issuers, underwriters or obligors. The information about the Company’s fee schedule can be provided upon the request.
Pengyuan International reserves the right to disseminate its credit ratings and reports through its website, the Company’s social media pages and authorised third parties. No content published by the Company may be modified, reproduced, transferred, distributed or reverse engineered in any form by any means without the prior written consent of the Company.
The Company’s credit ratings and reports are not indented for distribution to, or use by, any person in a jurisdiction where such usage would infringe the law. If in doubt, please consult the relevant regulatory body or professional advisor to ensure compliance with applicable laws and regulations.
Copyright  2018 by Pengyuan Credit Rating (Hong Kong) Company Ltd. All rights reserved.






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