FT - Investors warned of Chinese bond risks

"...taking equity risk for a bond return", says Tom Jones regarding China bonds (read here).  How very true indeed.

The structural seniority of bonds (versus equity) is the primary reason bonds are safer than equity, and therefore, bond investors demand less return (duh...).  However, as (1) bond holders are generally unable to enforce in China and (2) fraudulent Chinese companies are drawn to the offshore high yield market (adverse selection as I pointed out here), this means the recovery rate of defaulted offshore high yield bonds is almost always zero (as in the case of Asia Aluminum and Ferrochina).

Basically, in the event of default, the downside of a bond is the same as equity (ie. zero - you lose all), whereas the upside is far less for the bond holder (upside on debt is always capped).  That makes Chinese offshore bonds an (almost) uninvestable asset class in my book.

Final word - investors are always lured in by the high cash coupon of a Chinese bond.  Don't be fooled! That coupon is illusory and the cash coupon is simply a 'cheap' way for the truly fraudulent company to lure in capital.