Struggling real estate sector weighs on China's property-driven growth model

© Reuters. Struggling real estate sector weighs on China's property-driven growth model

The Chinese real estate market is undergoing a severe and drastic reshuffling process with the deflating property bubble spilling over into other sectors.

Property sales are expected to drop by 24.5% in 2022, according to a Reuters survey of analysts and economists in late August, a far bigger drop than the 10% fall forecast in the May poll.

The stakes are high as figures from America’s National Bureau of Economic Research indicate that real estate, including allied activities, contributes as much as 29% to China’s GDP and has been a key driver of its sustained economic growth.

Moreover, around 70% of household wealth in China is stored in property.

China has Real Estate worth $60 Trillion which is 30% of China GDP and Worth more than the US Stock Market which is 56% of Global Stock Market value.

Chinese Real Estate Bubble is Bursting and collapsing right now.

No one is safe from this

— ThPeterLockhart (@ThPeterLockhart) September 11, 2022

In this article:

• Triggered by deleveraging
• Mortgage strikes
• Evergrande’s US$300 billion debt
• A crisis of confidence
• Spillover into other sectors

Triggered by deleveraging

The Chinese property sector started facing headwinds from the summer of 2020 after regulators stepped in to cut excess leverage, causing some developers to default on their debts.

Developers have since struggled to complete projects, resulting in homebuyers threatening to stop making payments.

The struggling sector is weighing on the outlook for the Chinese economy, which narrowly escaped a contraction in the second quarter of 2022 due to crippling COVID-19 lockdowns.

Moody's analyst Daniel Zhou said in a research note: "Uncertainty over China's growth prospects and concerns about project incompletion will largely drive weak homebuyer demand over the next 6-12 months.

"COVID-19 disruptions to business activity and sales execution will also dampen consumer sentiment, while buyers' expectation of weaker property prices will delay property purchases."

The overarching concern is China real estate, of course...I'm no expert on it, but property sales declining like 40% YoY in July was not exactly a good number.

And as many folks smarter than I have commented, almost all new credit is focused on SOEs rather than privates. 5/x pic.twitter.com/kauY7MF3dD

— Matt Warder (@mfwarder) September 8, 2022

Mortgage strikes

A popular way of buying property in China is “pre-sales” where buyers pay for the property before it is built.

According to Julian Evans-Pritchard, a China economist at Capital Economics, pre-sales constitute 70-80% of new housing sales in China.

Developers often buy land, get loans on it to start construction, and then secure money from home buyers in pre-sales.

But many developers divert this money to fund new projects, instead of completing existing projects.

China’s real estate is an absolute DISASTER. Let’s just talk about their “pre-sale” deals. Step one you the buyer take out a loan on the land itself. Then your contractor takes a loan to build on it. So basically double leveraging. Lemme continue

— khef23 (@Konk23nft) September 2, 2022

Since early 2022, thousands of home buyers in China have refused to pay their mortgages in protest of unfinished residential projects.

According to crowd-sourced estimates quoted by The New York Times, these home buyers who had been paying monthly mortgages at rates of 5% and above, have either stopped or are threatening to stop paying their mortgages in more than 300 unfinished housing projects in around 90 cities across China.

Home buyers who have gone on mortgage strikes believe that their money has been misused by property developers.

According to ANZ financial services, these mortgage strikes could impact 1.5 trillion yuan or US$222 billion worth of mortgages linked to unfinished apartments, accounting for nearly 4% of outstanding mortgages.

Surveys published by various firms indicated that mortgages at risk of defaulting could total between US$150 billion to US$370 billion.

2022 is 2/3’s over and the amount of new mortgages in China hasn’t even reached 1/3 of last year. Coupled with the mortgage strikes, I think the barrier to housing is getting too high for too many to tolerate. I wonder how the China will assure their people that it’s safe to buy pic.twitter.com/JUCpvwXia1

— Earthling???????????????????????? (@BolshevikNeo) September 10, 2022

Evergrande’s US$300 billion debt

The snowballing of the Chinese real estate crisis can be traced back to the 2021 fall of China’s second-largest real estate developer in terms of total sales— the Evergrande (HK:3333) Group.

The company had taken money in advance from more than 1.5 million property buyers and had not paid many suppliers.

Evergrande told creditors in January 2022 that it would unveil a preliminary plan by the end of July to restructure its US$300 billion of liabilities, which include US$20 billion of offshore bonds.

However, the developer missed that deadline and instead said it had only made "positive progress" toward a proposal.

According to nikkei.com, Evergrande has been divesting assets including property and its stakes in companies to repay some of its creditors.

Evergrande’s chair has also put his personal assets up for sale, including private jets.

Despite these efforts, the developer’s Hong Kong headquarters was seized by a lender last week after the company defaulted on a loan and twice failed to sell the building.

A crisis of confidence

Last month, Country Garden Holdings which was China’s top real-estate developer in 2021, reported a 96% drop in first-half profit after selling a third fewer homes than it did a year ago.

China's Top Developer Warns Property Crisis Has "Slid Rapidly Into Severe Depression"

China hit an ominous milestone this week as one of the largest property developers, Garden Holdings Co Ltd reported a 96% profit drop, blaming a "severe depression" in the real estate market. pic.twitter.com/AjzrtCprty

— William Stickevers (@wstickevers) September 2, 2022

Country Garden said the market had struggled with weakening expectations, sluggish demand and declines in property prices.

It added: “All these exert mounting pressure on all participants in the property market, which has slid rapidly into severe depression.

Country Garden said that the resurgence of COVID-19 in cities across China has also slowed construction activity and weighed on its performance.

The Guangdong-based company eked out a small profit equivalent to US$89 million in the first six months of 2022, versus US$2.2 billion in the same period in 2021.

Although the company has long been regarded as one of China’s financially strongest developers, it has struggled to overcome a crisis of confidence that has caused buyers to back away from the Chinese property market.

136 Chinese real estate companies that report their earnings to Hong Kong and China slumped 87% in the first six months of the year to just $2.5 billion. That makes it the worst half year since data was available in 2008 - Bloomberg

— Cheddar Flow (@CheddarFlow) September 4, 2022

Spillover into other sectors

China’s deflating property bubble has also spilled over into other sectors, including the country’s banks and asset managers that specialise in managing portfolios of troubled loans and distressed debt.

China Cinda Asset Management Co., the country’s largest bad debt manager, recently reported a 33% drop in first-half profits to US$653 million.

Cinda said the Chinese government was “faced with an increasingly complex, grim and uncertain development environment.”

The company’s peer, China Huarong Asset Management Co., reported a US$2.7 billion net loss for the first half, and described the country’s economic conditions as “extremely complex and difficult”.

Huarong’s international finance arm predicted that in the second half, China will face manifold challenges including pressure on investment, consumer spending and export trade.

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