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Bubble talking on China Real Estate Market

In the last couple weeks increasingly alarmist articles regarding China’s property market keep popping up in the FT, The Economist and other economic periodicals. The discussed concerns are mainly regarding the residential sector and land prices. It is quite likely that this fearful sentiment will have some impact on potential investors views on Chinese property in general. 

In respond, I wrote an article below to summarize my view on this. Welcome your critics on this. (One of the issues of investing in China is the lack of trustworthy statistics. I'd like to put up some polls here...)

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Indeed the concern of residential property market has always been an issue in China’s economy. The local press has been reporting this intensively for a year. But given the structure of China’s economy, it’s very hard to stop asset appreciation and keep economy grow at the same time. In my view, three key factors push up the residential property market.

1. Lack of investable assets

Residents in China have limited investment vehicle besides bank savings, stock market and residential assets. Given the relatively unattractive stock market (high volatility and high PE ratio with high management risk) and low saving rate,people have been perceived the residential property as safe assets. And there are not many attractive cities in China for investors but Beijing and Shanghai. It’s not hard to envisage the overshoot of the property price in those cities, like Hong Kong and Singapore,as they attract capital all over the region.

2. Freed capital

With rampant IPO and VC/PE activities in China, many assets have been capitalized within last 5 years. In addition, with free-up of the resale residential market, many old residential flats are capitalized too. Take Beijing for an example,70% of the residential stocks are old flats, which either bought in very low price or simply given by the companies. Now those flats can be sold out to finance the equity for the new flats. According to Macquarie,the LTV was only within 40% national wide.

3. Pegging exchange rate and stimulus plan

It’s almost a consensus that the RMB has been undervalued. The government intend to tie up the currency in order to protect employment. The side effect of the manipulation is that the government is forced to print money whenever there is FDI. Plus the massive stimulus plan and lower easy monetary policy last year, the M2 surged almost 30%. For US and EU,the easy monetary policy was a must to counter collapse of banking system and shadow banking system. But in Asia, the easy credit plus the good economy fundamental have been pushed money to asset.

But I am still confident in China’s commercial property market for following reasons.

1. The asset price has not been pushed up for commercial properties.

Except for some cities with undersupply issue, e.g. Hong Kong and Shanghai,commercial property price generally stabilized with no significant correction,compared to residential market.

2. The injection of insurance funds and REIT legislation

There are limited en-block property investors in China.Many institutional investors are shut off property investments by the government. Major players are local SOE companies, foreign funds and property companies. But property companies are more interested in high growth, high margin residential market. This probably explained the under performance of commercial real estate compared to residential. But with new move of government allowing insurance funds and mass market funds conduit to this industry via REIT vehicle, the commercial market will be more liquid.

3. Bubble burst is avoidable, probably soft landing in 2 years

Above from Japan’s case, Chinese government has far more power and influence as to domestic and internationally. The government can control the economy in a very micro measure. For example, the government can limit credit expansion to residential property sector only and stop IPO or rights issue of property companies only.That’s why I think the government did not raise rate in a general way,given they have more targeted tools. With mighty control of monetary, fiscal,administration and regulation, China is more flexible in difficulties. And most important, it’s cash rich.With 2.4trn USD reserve, it’s in a good position to avoid a burst, had there been a bubble.

One last point on this is people talking about it already,so did the government. As long as people realize this issue, pay attention to it, the risk is mitigated.

In my view the key risk is not economical but political. The inequality is severe reflected by Gini indicator, which is at the same level as U.S. and considering China is only 10 years of capitalism history from socialism. I would keep an eye on this, on government’s policy to address this issue. Recent movement on subsidizing poor people to buy capital goods and electronic appliance and wave all taxes on farmers are good signs. But we need to pay attention to the squeezed mid-class, with pressure on skyrocketing housing price and heavy taxes, they are people place the key risk on China’s political structure.

In summary, I think there are some bubbles in residential market in some tier1 cities. But the commercial property market is not the case. And the government is capable and willing to contain the bubble growth for a soft landing in the next two years. To me,it’s like a déjà vu of 2004-2005, a soft landing for a structure change is necessary to a sustainable growth in the future.



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