One-third of Korean petrochem bonds incur valuation losses

South Korean institutional investors, including banks, insurers and securities companies, have yet to fully benefit from recent declines in bond yields, or higher bond prices. They have suffered heavy valuation losses on bonds sold by six Korean petrochemical companies.

They chalked up an average 2.7% valuation loss on 3.5 trillion won ($2.5 billion) worth of bonds issued by LG Chem Ltd., Lotte Chemical Corp. Hanwha TotalEnergies Petrochemical Co., HD Hyundai Chemical Co., Yeonchun NCC Co. and SK Geo Centric Co.

Their combined mark-to-market losses reached about 95 billion won, according to Korea Asset Pricing and other bond assessors.

Including privately placed bonds, they are estimated to book over 100 billion won as losses from around 4 trillion won in debts owed by the six petrochemical companies.

Korean institutional investors are sitting on a total of 10.6 trillion won worth of bonds sold in public by the six petrochemical products suppliers, which are among the country’s two largest corporate bond sellers, alongside telecom companies.

“Institutional investors, pressed to deploy the annual inflows of retirement pension funds at the start of the year, have often opted to purchase their bonds at premiums, regardless of the sector's outlook,” said a bond portfolio manager.

WIDENING CREDIT SPREADS

The yield on Lotte Chemical’s three-year bonds, rated AA, were quoted at 3.54% as of Feb. 21, according to three Korean credit rating agencies.

That is 0.39 percentage points above the average of 3.15% for the other AA-rated domestic corporate bonds. Until two years ago, AA-rated three-year corporate bonds in South Korea carried no yield spread.

The three-year bond yields for Hanwha TotalEnergies and Yeochun NCC have seen their spreads widen to 0.10 and 0.60 percentage points, respectively, compared to peers with the same credit ratings.

By comparison, LG Chem, South Korea’s largest chemical company, have seen a narrowing of its bond premium to 0.11 percentage points from 0.15 percentage points in September last year.

Korea Ratings said in March 2019 that the petrochemical industry had entered a downcycle, citing a slowdown in Chinese demand and expanded production capacity. Exports to China have dropped from 50% in 2019 to 30% at present.

"Despite warning signs of the industry downturn, petrochemical bonds were heavily bought at premiums between 2019 and 2021," the bond portfolio manager added.

The sector's profitability has worsened since 2019. According to data from KED Aicel, the alternative data service provider of The Korea Economic Daily, the spread between ethylene export prices and naphtha import prices, has halved from $700 in January 2018 to $350 per ton in June 2021.

The value of LG Chem’s 15-year bond that raised 120 billion won in February 2021 plunged 31% from its face value of 10,000 won to 6,800 won at one point in 2022.

It has since pared its losses to 13%, yet still underperformed the estimated valuation losses of 9% on treasury bonds with similar maturities.

Write to Tae-Ho Lee at thlee@hankyung.com

Yeonhee Kim edited this article.