Fizz Goes Out of Convertible Bond Market

The frenzy that has gripped the convertible bond market over the past few weeks appears to have fizzled out.

Recent stock market volatility, as well as some major shareholders offloading their holdings shortly after convertible debt issuances, has contributed to the current correction, analysts and fund managers said.

New issuances in recent days have attracted weak interest and even steep drops, in stark contrast to the 20% first-day gains seen just weeks ago.

The premium for managing to get an allocation of convertible bonds has declined as supply has increased, resulting in more reasonable gains when convertible bonds are offered, said Guotai Junan’s fixed income team.

In the short-term, the convertible bond market faces some downside risks as the stock market has not stabilized, according to Hua Chuang Securities.

While the move last month to allow investors to subscribe to new issuances of convertible bonds without providing upfront cash was well received by the market, many investors are still treading cautiously, especially as some large shareholders have dumped their holdings after getting a much sought-after allocation.

Plasticizer company Zhejiang Jiaao Enprotech Stock Co. was a case in point.

On Nov. 27, the market watched in shock as Zhejiang Jiaao’s largest shareholder, Shunchang Investment, disposed of its entire convertible bond holding, accounting for 44.65% of the entire issuance, on the first day of trading.

The move was in direct violation of Shanghai stock exchange rules, which stipulate that investors holding more than 20% of a company’s convertible bonds must submit a report and make a public announcement every time they buy or sell convertible bonds exceeding 10% of their holdings. The rules also prohibit investors from making additional purchases or sales of convertible bonds or stocks within two days of submitting the report.

Zhejiang Jiaao issued a notice later the same day, saying that Shunchang did not understand the rules. Shunchang has already pledged to return gains from selling bonds above a 20% allocation, totaling 9.3 million yuan ($1.4 million), to the listed company, according to the notice.

Listed companies can give current shareholders priority allocation when they issue convertible bonds. Over the past month, the number of convertible bond-trading accounts has more than doubled to nearly 6 million, while the chance of getting an allocation has been as low as 0.0013%, slimmer than in most initial public offerings.

On Friday afternoon, Zhejiang Jiaao’s convertible bonds were trading below par at 99.64 yuan, a steep drop from 122.8 yuan when it debuted on Monday.

Contact reporter Liu Xiao (liuxiao@caixin.com)