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Fitch has downgraded China’s credit rating to ‘A’ with a stable outlook, predicting a rise in the general government deficit to 8.4% of GDP by 2025, up from 6.5% in 2024. Additionally, China’s GDP growth is expected to decline to 4.4% in 2025, down from 5.0% in 2024.
The agency attributes these forecasts to the effects of increased tariffs and a global economic slowdown caused by these tariffs. In response, China’s finance ministry stated that the downgrade lacks objectivity and does not accurately represent the country’s economic situation.
China Credit Outlook And Growth Concerns
The initial segment provides a straightforward account of a sovereign downgrade by a major credit rating agency, adjusting China’s long-term rating to ‘A’ while maintaining a stable outlook. The justification lies predominantly in fiscal pressures and the projected budget deficit spiking to 8.4% of GDP by 2025. That is markedly higher than the anticipated 6.5% figure for 2024. Simultaneously, growth expectations for the Chinese economy are showing deceleration, with next year’s GDP growth marked down by half a percentage point. This would suggest a slower pace of domestic activity accompanied by broader effects on trade, credit conditions and potentially monetary policy interventions.
Now would be a reasonable time to take stock of the implications from this development, not only in terms of sovereign spreads and risk premiums, but also how derivatives markets might reflect shifts in risk sentiment. Chang, the ratings analyst responsible for this decision, attributed the changes primarily to higher global tariffs as well as a decline in broader international demand. These external stressors, particularly in sensitive export-driving sectors, are beginning to pressure Beijing’s fiscal stance. As local governments lean more heavily on off-balance-sheet borrowing and central authorities increase infrastructure outlays, questions will naturally arise about the sustainability of policy levers.
From our vantage as traders in forward-looking instruments, we ought to weigh what this means for hedging strategies. FX volatility in the yuan could see pronounced swings, particularly if capital outflows accelerate or if more foreign investors opt to step aside amid growing debt concerns. That might leave more space for domestic investors to dictate flows, which historically has had uneven effects depending on PBoC liquidity operations.
Government bonds might also begin to reflect wider spreads, particularly in longer-tenor contracts. Shorter durations, on the other hand, may stay anchored if Beijing opts to inject liquidity in order to buffer operations. If local debt becomes more active—especially high-yield entities in riskier provinces—that could create more arbitrage windows between various sovereign and quasi-sovereign instruments.
Market Reactions And Trading Strategies
Liu, the spokesman disputing the downgrade, pointed out what he terms as a mismatch between underlying data and the rating adjustment. It’s a fair response from Beijing, one that echoes past frustrations with external interpretations of domestic fiscal health. Even so, from our side of the market, the downgrade may act as a catalyst for price action far more than a mere academic reassessment.
One key feature to observe in the coming weeks is how swap spreads price in risk. If we see a widening in the 5- and 10-year space without corresponding movement in cash yields, it may indicate a shift in positioning rather than fundamentals. Additionally, options may start pricing in tail risk more aggressively, especially in structured products with exposure to Chinese corporates or the sovereign curve.
Equity-linked derivatives may also begin reflecting higher implied volatility, particularly those tracking indices with outsized exposure to real estate and infrastructure. Mindful of these movements, there’s merit in stress-testing margin requirements and liquidity assumptions across active positions.
Looking to the medium term, futures implied rates and OIS curves might gradually decouple from other major markets if sentiment deteriorates around fiscal clarity. In those settings, execution speed and order book depth become far more relevant, especially when volatility spikes in illiquid hours. We would do well to maintain monitoring systems that flag dislocations early.
As the macro backdrop shifts, outright directional bets may be less prudent than volatility-based strategies—calendar spreads, straddles, and corridor variance plays—to make use of non-directional dislocations.
This isn’t a time for passive observation. What’s unfolding offers actionable signals, particularly in structured risk positions. That’s where the edge lies.
