The Chinese property market contracted sharply in 2014, for the second time in six years. Given its vital contribution to the country’s economic growth, the government has intervened aggressively, with supportive sector-specific policies and easier monetary conditions starting in second half of last year.
We believe China will continue to provide active support to the sector through a number of channels – which should trigger a modest recovery over the rest of 2015.
The previous contraction, in 2008, was caused by a combination of tighter monetary policy and stringent property policies – a situation that was further complicated by a sharp drop in global asset values driven by the financial crisis. Similarly, the recent contraction is largely due to tighter liquidity conditions created in 2013. At the time, banks preferred to lend to corporations over homebuyers for profitability reasons, causing a spike in home mortgage rates and reducing the number of housing loans. Home purchase restrictions (HPR) designed to limit speculation also dampened the market, which continues to be weak, with national sales declining 2.2% year-on-year through April 2015.
In reaction, the Chinese central bank has taken aggressive steps, cutting the benchmark rate three times and the banks’ reserve requirement ratio twice, while reducing the minimum down payment on second mortgages from 60% to 40%. Meanwhile, the Ministry of Housing and Urban-Rural Development has again loosened HPR. Similar easing tactics were successful back in 2009 and we believe they should prove successful again, stabilising sales and limiting downside risk to both prices and volume.
Improved funding conditions for developers
All this should make things better for Chinese developers moving forward. In addition to weak growth conditions, the industry has been mired in a corruption investigation tied to Kaisa, a Shenzhen-based developer that defaulted on its offshore bonds (an unprecedented event) in April. For a short time, this closed off other developers from the capital markets, which were concerned about potential ripple effects, before the Chinese government stepped in to ‘ring fence’ the issue by demonstrating that it was targeting individuals who may be involved in corruption rather than the businesses themselves.
Now, the array of funding sources for developers has increased. This includes not only traditional construction loans, trust financing and offshore bond market issuance, but also stock offerings (made easier by the recent equity boom) and the onshore bond market, which was recently reopened to developers after six years of inactivity. Also, developers can now better access the offshore syndicated loans market, while borrowing is expected to become cheaper onshore as the PBOC implements further rate cuts.
Housing market has likely bottomed
Still, conditions will remain challenging, with the lower GDP growth outlook limiting growth in the property sector and compressing profit margins, as prices rise at a slower rate than costs. In our view, larger developers with better access to funding and stronger balance sheets should have better opportunities to bid on quality land and gain market share. This is critical as the Chinese property market becomes increasingly polarised, with certain cities doing much better than others. Moreover, we think developers will remain relatively prudent when it comes to buying land and managing inventory, to better manage their balance sheets.
Overall, we believe that the housing market has likely reached a bottom, presenting new opportunities for investors. Continued strong government support and improved funding should ensure the stabilisation of the sector and bring back home buyers. And while anticorruption efforts are ongoing, we believe that they present idiosyncratic risks and are generally positive for the long-term prospects of the industry. Market consolidation will be an ongoing theme in the sector as leading developers become even larger over time.
Still, the Chinese property market is becoming more polarised geographically, as certain cities have a better backdrop than others. This means that, while we are enthusiastic about the sector, we believe that bottom-up credit selection is more important than ever in this maturing and sizeable property market.
Nish Popat is co-lead portfolio manager on the Emerging Markets Corporate Debt team at Neuberger Berman