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S&P's first China downgrade since 1999 is good news for bulls

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S&P Global Ratings may have just done China's investors a favor.

[HONG KONG] S&P Global Ratings may have just done China's investors a favour.

With the credit assessor cutting the nation's rating less than a month before the start of a twice-a-decade Communist Party congress, Chinese officials have even more motivation to keep financial markets buoyant.

The power of the state's hand was seen after an equivalent downgrade by Moody's Investors Service in May: knee-jerk losses in Chinese stocks evaporated in a single trading session, while the yuan soared to a seven-month high in offshore trading within a week amid suspected intervention.

"The impact on Chinese asset prices will probably be on the upside," said Ziyun Wang, a founding partner at hedge fund DeepBlue Global Investment.

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"Large state-backed funds will probably buy rather than sell Chinese bonds and stocks."

S&P lowered China's sovereign credit grade by one step to A+ on Thursday in its first such reduction since 1999, citing the risks from a soaring debt burden.

After the Moody's cut on May 24 - which China described as "absolutely groundless" - the Shanghai Composite Index clawed back a 1.3 per cent drop to close higher, and rose 1.4 per cent the next day.

The yuan posted its steepest weekly gain since July 2016 as short sellers in Hong Kong were squeezed by surging interbank rates.

"The news could read positively in China," said Qin Han, chief bond analyst at Guotai Junan Securities in Shanghai.

"Domestic investors may expect the government to release supportive policies to ease any disruption."

The offshore yuan was down 0.1 per cent at 8.25am in Hong Kong, after climbing as much as 0.4 per cent in overnight trading.

If supporting markets was important in May, it's even more critical now. China's policy makers have stressed the need for stability in the lead-up to what will be the most important political event in years.

The China Securities Regulatory Commission has ordered local brokerages to mitigate risks and ensure stable markets before and during the Communist Party's twice-a-decade leadership congress next month, people familiar with the matter have said.

The CSRC has also banned brokerage bosses from taking holidays or leaving the country from Oct 11 until the congress ends, according to the people.

While the Moody's cut initially jolted markets, S&P's move is less surprising, according to Becky Liu, head of China macro strategy at Standard Chartered. It also comes after a period of strength in Chinese asset prices.

The Shanghai Composite has climbed nearly four per cent over the past two months, while the MSCI China Index of internationally-listed shares is up 10 percent. The yuan has strengthened 2.6 per cent against the US dollar.

"Chinese fund managers are likely to sit tight on their positions," said Qiu Zhicheng, a Hong Kong-based strategist at ICBC International Research. 

If foreign investors sell shares in Hong Kong amid concern about the downgrade, "It would be a good opportunity to buy on the dip".

BLOOMBERG