The Chinese real estate market may experience more pain, although the crisis in Evergrande may ease

People look at models of houses at the Dalian Autumn Real Estate Fair 2021 at the Dalian World Expo Center on October 15, 2021 in Dalian, Liaoning Province, China.

Liu Debin | Visual China Group | Getty pictures

BEIJING – Concerns over Chinese real estate developers’ high debt levels have rattled investors despite signs that real estate giant China Evergrande may be making progress in solving its debt problems.

This is an indication of further pain in China̵[ads1]7;s real estate market, analysts told CNBC.

Since late summer, global investors have been looking at Evergrande’s ability to avert official default – and are concerned about whether the fallout could spread to the rest of China’s real estate industry.

Other major developers have also reported liquidity problems in recent days.

Chinese real estate stocks in Hong Kong fell largely last week. Evergrande was among the least affected and lost about 1.3% for the week.

On the debt front, the Markit iBoxx index of high-yield Chinese real estate bonds fell 11.5% last week, according to IHS Markit.

“The market is a little more concerned,” Gary Ng, Asia-Pacific economist at Natixis, said in a telephone interview on Thursday. He pointed out how tighter government regulations on debt have limited liquidity, which has spread to more developers.

“We still believe that most of this stress” will be on companies in the private sector and “on smaller developers and in the high-yield area,” Ng said. “State-owned developers, or the general investment rate [space], they seem quite stable. “

Only five of the twenty largest Chinese real estate developers by assets as of the first half of this year were central state enterprises, according to Natixis.

The three developers who have caught the investor’s attention recently do not fall into the state-owned category.

Evergrande is the industry’s largest issuer of high-yield US dollar-denominated bonds, according to Natixis.

Kaisa Group Holdings, the second-largest issuer of high-yield bonds, suspended trading in its Hong Kong-listed shares on Friday before the stock market opened. The developer’s shares were already down by almost 13% for the week following the news that payment for a wealth management product was missed.

Another major Chinese developer, Shimao Group Holdings, traded about 14% lower on Friday in Hong Kong. The company revealed in an archive on Thursday that it will only allow institutional investors to buy seven of its Shanghai-traded bonds, with effect from Friday. Existing retail investors must sell or hold the bonds until maturity, it is stated in the submission.

This development comes as investors are already at odds with the risk of default for other Chinese real estate companies.

Moody’s made 32 negative assessments in the Chinese real estate sector during the approximately four weeks ending October 26.

The rating agency noted in a report in late October that the estimated developers will have to pay or refinance tens of billions of dollars of debt over the next 12 months: $ 33.1 billion of onshore bonds listed in mainland China, and $ 43.8 billion dollar offshore bonds in US dollars. The figure includes bonds that mature and those that are subject to put options, or the rights of investors to sell.

Central authorities have tried to calm the markets and said in recent weeks that Evergrande is an isolated case and that the real estate industry is generally good.

Evergrande avoided official default at 11 a.m. in late October, and began announcing progress on its construction projects. The property developer said on Wednesday that they had completed project deliveries involving 57,462 apartment owners from July to October.

However, the delivery rate has generally slowed from month to month. The deliveries covered 39 projects and 7,568 apartment owners in October, down from 48 projects and 7,808 owners in September, the company said.

Evergrande met a new deadline last Saturday to repay bond investors. The company was the second largest Chinese developer after sales last year, but fell to fourth this year from the third quarter, according to the industrial data website China Index Academy.

Trapped in a negative loop

“Our view is that the real estate market is currently caught in a negative credit loop,” Franco Leung, Hong Kong-based Deputy CEO of Moody’s Investor Service, told CNBC in a telephone interview last week.

Regulators’ call for developers to reduce debt has made investors and lenders on land less willing to provide financing, Leung said. Developers – especially those who are financially weaker – then had to reduce the cost of land or construction costs, which resulted in a drop in sales, he added.

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As business declines for some developers, investors will choose to put their money elsewhere.

A change in government policy or long-term developer reductions in spending on land and construction could break this “negative loop,” Leung said, adding that it will take time.

Moody’s has no view on whether such a break would happen at all. The company’s prospects for China’s property have been negative for at least three to six months, he said.

S&P Global Ratings predicts a 10% decline in China’s home sales next year, and a further 5% to 10% decline in 2023.

“Default will rise as the downturn persists in the shadow of sluggish sales, narrower financing channels and more cautious lenders,” S&P analysts said in a report on October 27.

Bright spots in property

Not all Chinese real estate developers are in such dire straits.

For the first three quarters of the year, Moody’s noted that the three best developers after contracted sales growth from year to year saw significant sales gains.

  1. Greentown China Holdings, +76%
  2. Powerlong real estate portfolio, +42.8%
  3. Hopson Development Holdings, +35.3%

Powerlong and Hopson had not broken any of the government’s “three red lines” in the first half of this year, while Greentown had broken one, according to Natixis.

“In short term, [the regulation means] it will be a liquidity squeeze, “said Ng from Natixis.” In the long run, it will improve the overall financial health of the entire real estate sector because there will be consolidation if we see that some of the weaker players … are forced to sell their assets.

Regarding the implications for the real estate industry and China’s economy, he said the risk is limited because homebuyers are unlikely to give up properties or mortgages they have already paid for. Since most apartments in China are sold before they are completed, a major challenge for developers with cash is to complete construction and deliver properties to buyers.

For bondholders, “you feel that your bonds are falling 80%, 90%. But for home buyers, the real estate sector itself, we have not seen any major change … in terms of this financial risk,” Ng said.

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