Bond default: no Bear Stearns moment, just the market at play

Much ink has been spilled on the alleged first default of a Chinese corporate onshore bond, but an inappropriate analogy likening it to the infamous Bear Stearns moment couldn't be further off the mark.

The Shenzhen-listed solar maker Shanghai Chaori Solar Energy Science & Technology Co. announced on Tuesday night that it could not fully service an 89.8 million yuan interest payment due Friday. Three analysts with Bank of America Merrill Lynch (BAML) called it China's "Bear Stearns moment" in a research note the next day, and the judgement call soon made headlines at Bloomberg and some other media outlets.

But only hours before the scare-mongering, another report from BAML said the default was "not on a similar scale to a collapse of a major financial institution."

The author had a more positive take, saying such a default helps better price bonds and other debt products. The report also asserted that China's onshore investors are resilient enough to absorb its impact.

Indeed, it is hard to grasp how a potential default of the bond - 163 million U.S. dollars in principal and rated as junk by Shenzhen-based Pengyuan Credit - could be likened to the systemically important investment bank Bear Stearns with hundreds of billions of dollars on its balance sheet at the time.

BAML's diverging views aside, economists from other financial institutes took a more cautious tone.

Fitch Ratings saw the default as having "relatively limited impact on Chinese corporate issuers of offshore debt." It also added that the default issued within the Chinese mainland "should instill greater market discipline and lead to a more efficient allocation of capital among corporate borrowers."

Fitch also noted the default came at a time when lawmakers met in Beijing for the country's annual parliamentary session. On Wednesday, Premier Li Keqiang reiterated the top leadership's pledge to allow market forces to play the "decisive role" in the economy.

The perception that the government will provide a backstop for debt products on the verge of default is plainly against the spirit of a maturing market economy, and simply unsustainable considering the looming size of China's increasingly sophisticated financing methods, which have channeled money to industries saddled with overcapacity, such as steel, cement, and solar.

Chaori also has not ruled out the option of seeking funding to meet its obligations. But if a default does occur, the episode should help reduce the moral hazard caused by the widespread assumption that an almighty government will always bail out underwater investments with taxpayers' money.

That, after all, is the market playing its own decisive role.