China’s struggling real estate market has global investors on edge

(Bloomberg) – Former UBS Group AG economist Jonathan Anderson once called it “the most important industry in the universe.”

More than a decade later, Chinese real estate is once again attracting the attention of global investors, this time for all the wrong reasons.

This week, growing signs of stress in an industry that makes up about a quarter of the world’s second-largest economy are disrupting China’s credit markets, dragging the country’s banking stocks lower and sending commodities from iron ore to copper.

After a whiff of optimism earlier this year that looser regulatory restrictions could stem the industry’s debt crisis, investors are spooked by Covid lockdowns and a rapidly escalating homebuyer boycott of mortgage payments on stalled projects. The biggest concern is that a widespread loss of confidence in real estate will strain China’s economy and financial system, which sits on 46 trillion yuan ($6.8 trillion) in outstanding mortgages. and still has 13 trillion yuan in loans to beleaguered countries. developers.

“The property kept getting worse all the time; prices, sales, housing starts, it’s all terrible,” said Craig Botham, chief China economist at Pantheon Macroeconomics in London. “Chronic deterioration has reached a new stage. This would still end up hitting the financial sector, given the prevalence of collateral on loan books with large portions of real estate.

This week’s turmoil hit what was already one of the most stressed industries in the world. The average yield on Chinese speculative dollar debt, which is dominated by developers, jumped to almost 26%. The panic also spread to investment-grade builders, with a bond issued by China Vanke Co., the nation’s second-largest builder by sales, falling to a record low of 81.6 cents on the dollar on Tuesday.

China’s Covid Zero policy is exacerbating the situation by dampening real estate demand and depressing economic activity. Lockdowns remain commonplace in China, which continues to stick to a policy of tackling the virus with strict restrictions. A recent outbreak in Shanghai has raised fears the city is heading for another city lockdown.

How Chinese property developers got into such a mess: QuickTake

Fears that mortgage boycotts could lead to an increase in degraded loans sent the gauge of Chinese bank stocks to their lowest level since March 2020.

Chinese authorities this week held emergency meetings with major banks to discuss mortgage boycotts, fearing more buyers would follow their lead, according to people familiar with the matter. Some lenders plan to tighten their mortgage requirements in high-risk cities, two of the interviewees said.

On Wednesday, homebuyers stopped mortgage payments on at least 100 projects in more than 50 cities, according to researcher China Real Estate Information Corp. That’s up from 58 projects on Tuesday and just 28 on Monday, according to analysts at Jefferies Financial Group Inc., including Shujin Chen.

“If more homebuyers stop paying, the spreading trend will not only threaten the health of the financial system, but also create social problems in the context of the current economic downturn,” wrote Betty Wang, senior economist at Australia. & New Zealand Banking Group Ltd. in a note Thursday.

Banks are rushing to reassure investors that homebuyer lending risks were controllable, with at least 10 companies releasing statements. The state-owned Agricultural Bank of China said it held 660 million yuan in delinquent loans on unfinished homes, while smaller rival Industrial Bank Co. said 1.6 billion yuan of mortgage loans had been affected, of which 384 million yuan became delinquent.

Nomura Holdings Inc. said the refusal to pay mortgages stems from the widespread practice in China of selling houses before they are built. Confidence that projects will be completed has weakened as developers’ cash flow problems have intensified.

Nomura economists led by Ting Lu estimate Chinese developers only delivered about 60% of the homes they pre-sold between 2013 and 2020, when in those years Chinese mortgages grew by 26,300. billion yuan. GF Securities Co. expects up to 2 trillion yuan worth of mortgages to be affected by the boycott.

China’s credit market plunges into new phase of distress

Housing in China has gone from a safe bet over the past two decades to an increasing risk. House prices have fallen for nine straight months as the government has clamped down on leverage in the property sector, helping to drive up debt rollover costs for developers and triggering a record wave of defaults. Home sales fell 41.7% in May from a year earlier as investment fell 7.8%.

The real estate sector has an outsized impact on the economy. When related sectors such as construction and real estate services are included, real estate accounts for more than a quarter of China’s economic output, according to some estimates. About 70% of household wealth is stored in property, along with 30-40% of bank loan books, while land sales account for 30-40% of local government revenue, according to Botham of Pantheon Macroeconomics.

The worsening crisis will test the authorities’ ability to minimize the fallout. Earlier this year, China set up a stability fund to provide support to struggling financial firms as risks to the economy mount. Dealing with these issues will also be key for President Xi Jinping ahead of a widely anticipated leadership conference to cement his lifelong rule.

Friday’s data will likely show the economy’s performance in the second quarter was the weakest since a historic contraction in the first three months of 2020 when the pandemic first hit. Economists predict GDP likely grew 1.2% in the second quarter from a year ago, compared to 4.8% in the first three months of the year. New home prices for June will also be released.

The slowdown in construction is also hurting demand for building materials. Iron ore fell more than 8% on Thursday, falling below $100 a tonne for the first time since December. A year ago, iron ore was trading comfortably above $200 a tonne, as China’s wave of Covid-era stimulus fueled a housing and steel market boom. Steel rebar futures in construction slumped in Shanghai to their lowest level since 2020. Copper fell for a fifth day.

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Penny D. Jackson