China's structured finance market is at a turning point. We expect full-year new issuance will fall by about 10% from last year--the country's first year-over-year drop. China's on-and-off lockdowns of cities this year have choked consumption, weakened employment, and squeezed supply chains. These burdens, together with the 2021 crackdown on the property and technology sectors, have accelerated the economic slowdown. S&P Global Ratings has adjusted down its forecast of China's GDP growth to 3.3% in 2022 from last year's forecast of 4.9%.

Amid the slowdown in growth, the structured finance market has endured notable drops in residential mortgage-backed securities (RMBS) and certain asset-backed securities (ABS) sectors in the first half of 2022. Rating performances of our rated securitization transactions remain quite steady, thanks to favorable asset features and structural support.

This article discusses our revised forecast of whole-year issuance volume, as well as key risk factors and trends in China's securitization market.

New Issuance Likely To Drop In 2022 Year-Over-Year

The year 2022 looms as the first year of issuance decline for China's securitization market after the compounded annual growth rate of 25% from 2014 to 2020 and 8% expansion in 2021. The lack of visibility in RMBS issuance and weak issuance momentum in corporate risk-related ABS have prompted us to lower our 2022 issuance forecast to Chinese renminbi (RMB) 2.8 trillion (US$430 billion). This represents about a 10% drop compared with that in 2021.

Chinese securitization new issuance dropped 33% year over year to RMB0.95 trillion (US$142 billion) in the first half of 2022. The slump in issuance largely stems from the plummet of RMBS issuance and the decline in supply chain ABS and account receivables ABS.

RMBS issuance plummeted 91% year over year to RMB24.5 billion through June, in part likely reflecting weak mortgage origination volume in the first half of 2022 and less imminent needs for banks to manage their mortgage loan books. There has been no RMBS issuance since the middle of February. A similar phenomenon occurred around the middle of 2021 but lasted only three months. It remains to be seen when RMBS issuance will resume, depending on mortgage origination momentum and regulatory stance in the second half. Account receivables-backed transactions and supply chain ABS fell 20% and 41%, respectively. We expect this likely derives from weaker economic activities during the first six months.

Another notable trend is that auto loan ABS issuance increased 4% year over year to RMB126 billion in the first half of 2022. This is in line with our forecast early this year of flat-to-modest growth.

We also note the appreciable issuance growth in the lease-receivables ABS sector. The issuance amounted to RMB142 billion through June, a 20% increase year over year.

Ratings Remain Largely Stable

We expect our ratings outlook on Chinese RMBS, auto loan ABS, and credit card ABS to remain stable for 'AAA' rated tranches and stable to positive for other investment-grade ('AA+' through 'BBB-') rated classes. We base this on our expectation for largely stable collateral performance and increased credit enhancement for most amortizing transactions.

Other Top Trends To Watch

Below are some of the key themes to watch out for in the second half of 2022.

Uncertainty of COVID impact remains high

Despite the gradual easing of lockdowns in major cities such as Shanghai, COVID-induced uncertainty remains. The impact of lockdowns is twofold. Firstly, lockdowns lead to liquidity issues for self-employed borrowers, or those that work in the services and hospitality industries. This affects the securitizations encompassing loans extended to such borrowers. Any easing of lockdowns may lessen this issue. However, in our view, the key downside risk in China is new COVID lockdowns in one or more large, relatively developed cities with economic heft and connectivity. The uncertainty remains because the borrowers are still susceptible to restrictions on movement should the downside risk manifest.

Secondly, we expect the lagging impact of lockdowns to continue. Lockdowns hamper in-person collection, which is mainly done to recover severe delinquencies. For severe delinquent loans facing judicial process there is a risk of further delays because of the backlog of cases created during lockdown.

The above reasons cause us to expect a greater fluctuation in the delinquency rates of our rated deals in the next two quarters. The effect may vary deal by deal given the scope of lockdowns and different geographical distribution of the securitized pools.

That said, most of our rated Chinese deals have relatively diversified underlying pools. Such attributes should help to alleviate the possible economic effect of city lockdowns.

Strained property developers causing pressure for certain ABS and RMBS

The deepening liquidity crunch for property developers could continue to have knock-on effects for RMBS and corporate risk-related ABS.

Over the past few years, property developers have been among the companies that have acted as sponsors for transactions such as supply chain-related deals (e.g., exchange-listed ABS and asset-backed notes) to better manage their working capital. This broad corporate risk-related ABS sector has been hindered by strained property developers since last year.

The collateral performance of ABS related to property developers is opaque and hard to gauge because transaction performances are not in the public domain and material events may not be disclosed. Some reports suggest that property developers sought to extend payments for the ABS they sponsored, and ultimately have obligations to make whole payments in the event of any shortfall.

In terms of RMBS, mortgage loans backed by forward delivery houses (FDH) are common among China RMBS, exposing them to the construction risk related to property developers.

Residential properties still under construction are routinely sold to the public in China. Regulation stipulates that if the top of a residential property is sealed, that property can be offered as collateral by a home buyer to apply a mortgage loan from a bank. If the associated developer is unable to complete the construction of the property, the home buyer (also the mortgage borrower) risks not receiving a completed home. The mortgage loan is then exposed to construction risk. This increases the risk that the mortgage borrower may not pay off the mortgage loan. That can spill over to the performance of RMBS pools that contain loans collateralized by FDH.

As some property developers remain in either a liquidity or credit crunch, the risk remains high that more related ABS or RMBS will be affected throughout the year. We do not rate ABS linked to strained property developers. Nor are our rated RMBS transactions directly exposed to risks from strained property developers because underlying pools contain no FDH. However, the fallout from the property sector could still cause ripple effects on property sales and price movements, which is worth further observation.

Will consumer-loan ABS be the next sector available to offshore investors?

In 2021, broadly defined "unsecured-consumer ABS" issuance amounted to about RMB300 billion, accounting for nearly 10% of total issuance in 2021. There are three types of originators or key transaction participants that usually sponsor or initiate broadly defined unsecured consumer ABS: banks; centrally regulated consumer finance companies; and e-commerce finance companies.

In the past few years, issuers in this segment made a few short-lived attempts to tap offshore investors. We believe the lack of interest is due to tightening regulations, and COVID-induced asset quality deterioration in 2020. In our view, however, the biggest obstacle to offshore participation in consumer-finance securitization is investor concern about asset quality.

We think it's possible that in next six to 12 months issuers will try again to woo offshore investors. Incentives include diversifying sourcing of funding and lowering cost.

Bright spots amid the slower issuance momentum

Despite the gloomy issuance prospects for 2022, some sectors in China's securitization market are growing momentum. For example, more and more auto finance companies are joining a "green" frenzy to issue green auto ABS. Of these, the underlying loans are backed by new energy vehicles, which aim to raise a company's profile. Four green auto loan ABS were issued during the first half of 2022, which account for about 7% of total auto ABS issuance. Leasing receivables ABS is another sector worth watching because of its growth potential.

Related Research

• Credit Conditions Asia-Pacific Q3 2022: Cost Heighten, China Growth Tightens, June 28, 2022
• China Securitization: Auto ABS And RMBS Tracker May 2022, June 27, 2022
• A Primer On China's Residential Mortgage-Backed Securities Market, May 24, 2022
• China Securitization Performance Watch 1Q 2022: Volatility In Delinquency Rates Will Increase Amid COVID Resurgence, May 12, 2022
• A Primer On China's Auto Loan Asset-Backed Securities Market, April 28, 2022
• China's Property Downcycle Won't End With Policy Easing, April 7, 2022
• China's Consumer Sector Faces Another Tough Year, Jan. 24, 2022
• China Securitization: How Strained Property Developers Might Affect Existing RMBS, Jan. 20, 2022