Seoul deploying debt buyback fund amid fast spread of ABS-triggered financial risk

South Korean authorities are readying to deploy 1.6 trillion won ($1.1 billion) in buyback fund to ease the crunch in the local debt market worsened by a default in financing related to Legoland theme park in Gangwon Province on top of uncertainties from unprecedentedly speedy rises in interest rates.

“We have about 1.6 trillion won left in 3 trillion stabilization fund created since the Covid-19 pandemic crisis. We will deploy the fund as soon as possible to help ease the liquidity squeeze stemming from the default in Legoland project financing,” said Kang Seog-hoon, chairman of state lender Korea Development Bank, in a parliamentary hearing on Thursday.

Liquidity squeeze from fast rises in interest rates and sluggish asset market amid escalating risk aversion sentiment has been aggravated by a scare over a bigger financial risk since the default of debt backed by local government of Gangwon Province. The panic comes as the liquidity risk couples with nosediving Korean won and other Asian currencies and worsening trade.

Credit issuers cannot secure immediate funds to run their credit-based operation.

The chill has spread even to the highest investment-grade issuers.

The yield of three-year AA+ debt by a credit financial issuer more than tripled to 5.889 percent on Oct. 19 from 1.674 percent in January.

The spread between the debt and government bond has widened to 155.3 basis points from under 100 basis points in early July. The spread in April 2020 in the wake of Covid-19 was 74 basis points.

Even majors are faced with liquidity woes due to low demand for their debt backed by receivables.

Shinhan Card was able to issue just 120 billion won ($83.9 million), Hana Card 100 billion won, Samsung Card 10 billion won and Hyundai Card 20 billion won this month. Their ABS maturing this month amount to 1.65 trillion won.

“Overall situation has changed in recent weeks due to multiple factors like (default in project financing) for Legoland and bank bonds,” said an unnamed official from a card company. “We are all hard-up.”

The sagging financing market from dizzily fast rises in interest rates received a devasting blow after the developer of Legoland Korea missed debt payment despite guarantee from a local government.

[Provided by Legoland Korea]

The Legoland project began in 2011 after Gangwon Province and UK Merlin Entertainments signed an investment agreement and an undertaking agreement in 2013. Under the agreement, Gangwon Jungdo Development Corp. (GJC) was to invest 230 billion won for the construction. Gangwon Province and Merlin, however, struggled to raise funds and in 2018 changed their plan. Merlin pledged 180 billion won and GJC 80 billion won via master development agreement. GJC afterwards needed additional funds and established a special purpose company in 2020, which issued 205 billion won in asset-backed commercial papers (ABCPs) guaranteed by Gangwon Province.

The amusement park finally opened in May after 11 years, but GJC failed to repay the maturing ABCPs due to subdued visitors to the new theme park. The Gangwon government filed for court protection for GJC.

The timing has been poor, scaring foreign as well as domestic institutions due to a souring in local government-backed debt.

The market has turned panicky about a chain default starting with credit issuers.

According to Financial Supervisory Service, outstanding balance of short-term loans at Korea’s 8 card firms reached 6.6 trillion won as of end of June, up 105.5 percent from the same period a year ago. Short-term loan refers to debt that should be repaid within one year.

Savings banks are also suffering an ebb in deposits as banks offer as high yield as theirs in line with the jump in the base rate.

Saving banks also face risk from project financing due to slump in construction projects and property market.

Asan Savings Bank headquartered in Asan, South Chungcheong Province, for example, has seen delinquency rate of property-related loans rise to 11.6 percent in the first half of the year from 3.9 percent last year. Property-related loans fell to 70.5 billion won from 76.9 billion won during the same period, but delinquency rate of construction sector loans soared to 16.89 percent from 6.06 percent.

Whether the state-backed stabilization fund would be of any help is questionable since as much as 6.7 trillion won in project financing would have to be covered by the end of the month. ABS backed by securities companies and builders reached 61.4 trillion won as of June, of which 46 trillion won fall in the liability of brokerages.

The finance ministry and central bank bought back bonds worth 5 trillion won since last month, but their action failed to slow the rise.

The three-year-government bond yielded at 4.344 percent, lower than 4.428 percent of in five-year government and 4.399 percent in 10-year bond Friday morning. The unsecured three-year AA- corporate bond yield hovered at 5.568 and BBB- of the same maturity at 11.422 percent.

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