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China’s hot property sector has cooled down over the past year, largely due to reduced liquidity and in part due to faltering demand. In 2021, some of the largest real estate developers in China started defaulting on loans, raising concerns about the overall resilience of the Chinese economy.
Apart from China Evergrande, some of the other big names who have defaulted on debt payments are Sunac China, Shimao Holdings and Zhenro, among many others.
China real estate sector has been a major driver of the economy for a couple of decades, and contributes about 25% to the country’s GDP, as per estimates by JP Morgan. This estimate includes the various other industries dependent on the property sector. There is also a cultural component involved with homeownership, and 70% of the wealth of Chinese households is invested in real estate, as per data from Loomis, Sayles & Co.
A year of troubles for China real estate
Trouble was brewing for China property developers after the country passed a slew of regulations to wean the property sector off a debt-fuelled growth. The goal was to reduce the economy’s reliance on the real estate sector and related industries as well as divert investments to other industries.
Property sales in the country have dropped over 40%, based on data from the top 100 real estate companies during the first two months of 2022 compiled by researcher China Real Estate Information Corp. New home prices too declined 0.13% in February over the previous month, as per data from the National Bureau of Statistics. Real estate firms are slashing prices and giving deep discounts to boost sales, but it has done little to help the sector.
The MSCI China Real Estate Index (USD), designed to capture the large and mid-cap segments of the China equity markets, has declined 41.15% year to date as of March 31, compared to a 31.47% dip in MSCI China Index for the same period. The real estate index has fallen nearly 10 per cent in March 2022 alone.
The Chinese government took stock of the property sector issues after developers started defaulting and eased some of the curbs it had placed in 2020. Earlier this year, UBS chief China economist Wang Tao said that the easing of policies had helped the real estate sector and more such measures are expected in 2022.
President Xi Jinping wants to implement a property tax, a key reform under the ‘Common Prosperity’ campaign, to sway Chinese citizens away from viewing real estate as an investment vehicle. The property tax is yet to launch, and pilot projects will be run in different cities over the next few years before a nationwide rollout.
Economist and senior Chinese politician Liu He recently said that the government will provide more support to the housing market. Shortly after, state media reported that the much-feared property tax trial has been delayed.
Additionally, Premier Li Keqiang has said that the government will implement city-specific policies to help the healthy development of the property sector.
“Despite policy easing and cuts in mortgage rates, we think the housing market will take longer to recover on the demand side, most likely in Q3 or Q4 next year, with homebuyers still in the “wait and see” mode. We expect there is still room for mortgage rates to decline, which we think will gradually drive upmarket sentiment,” writes equity research analyst Li Tang on Smartkarma.
What’s next for real estate in China
After some big defaults last year, real estate developers in China are yet again faced with enormous amounts of debt maturing in 2022. A Reuters report estimates that Chinese real estate developers have $117 bn worth of debt maturing in 2022, with $36 bn of those denominated in US dollars.
China’s housing boom was largely reliant on funding from local governments, who themselves made money through the sale of land and taxes on property development. The decline in property sales has hit the coffers of local governments. Premier Li Keqiang said the central government will increase payments to local governments by 18% or 1.5 tn yuan ($235.5 bn), totalling 9.8 tn yuan. However, Nomura in a recent note said that this financial stimulus will have little impact to help local governments.
“Our expectation going forward is that you would get more easing but at the same time, you get more defaults. In 2022, we have a base-case estimate for a China property high-yield default rate of 19%,” said Kenneth Ho from Goldman Sachs Research.
Last week, Nikkei reported that over half of China’s top lenders had reduced their exposure to the real estate sector over the previous year. At the end of 2021, outstanding loans to the property sector had decreased at 17 out of 32 leading banks listed on the Hong Kong stock exchange. China’s big four banks saw a 4.9% increase in lending to real estate developers, a sharp slowdown from the double-digit jumps seen previously.
Meanwhile, there has also been a default on wealth management products tied to real estate products. Data from Use Finance & Trust Research Institute shows that real estate-linked trust products failed to pay dividends or meet obligations in 2021, amounting to 91.7 bn yuan. This is twice the 2020 amount.
Liquidity concerns for China real estate sector seem to be unending, as bond issuances too have fallen sharply in the first quarter of 2022, found BRI, the research arm of online property broker Beike. Including onshore issuances, Chinese property firms raised 173.3 bn yuan during the first three months of 2022, down 43% compared to the same period last year.
“Declining sales, tight liquidity and cash trapped in escrow or joint venture partners all point to rising defaults,” rating agency S&P Global said in its “China’s Property Downcycle Won’t End With Policy Easing” report.
(1 yuan = $0.16)
