China’s Property Market: Near-term Pressure with some Policy Relief

China recently reported its October monthly economic data. While exports, industrial production and retail spending beat expectations and showed surprising resilience, the property sector continues to slow. Though it’s still too soon to call a bottom to the property market credit cycle, recent easing measures and supportive comments by the government indicate that we could be seeing it soon.  ​​

In October, property sales volume shrank -5.0% following a -3.5% drop in the prior month and constructions starts declined -16.8% after a -7.9% hit in September. This isn’t a surprise given the government’s squeeze on developer financing which started back in August 2020, when regulators published a set of financial ratios now known as the “three red lines”.  ​​

Since then, the threat of a looming new property tax measure coupled with the rapid deterioration in investor confidence in certain Chinese developers and their ability to repay loans  have only exacerbated the sector’s woes.¹ In addition, a few local governments have restricted the use of pre-sale proceeds to ensure the completion of projects – making it tougher for them to use the proceeds to repay debt.²  ​​

It’s possible that Chinese households may delay purchasing homes and placing buyer deposits until many of these uncertainties are resolved. ​​

Tolerance of a deteriorating market only goes so far​​

Despite the well-publicized financial carnage experienced by a few developers, the government has not indicated a change in policy direction. “Affordable housing” is very much central to the government’s new “Common Prosperity” framework put out earlier this year. ​​

That said, the deepening downward trend for property and construction is starting to be a drag on growth and could be the single greatest near-term headwind the economy faces. The property market - directly and indirectly – contributes to around 29% of the economy³,  so it’s fair to assume that the government’s tolerance of a deteriorating market only goes so far. ​​

Already, policymakers have responded with marginal easing: outstanding mortgages in October rose to RMB 346.1bn (compared to RMB 101.3bn in September)⁴ and officials recently made some supportive comments for the sector’s funding requirements. ​​

Investment implications​​

A consequence from slowing construction and property investment is less demand for raw materials, namely steel production. In 2018, steel production accounted for around 18% of China’s CO2 emissions, which means that falling steel demand should aid China in reaching its longer-term carbon-neutral goal. ​​

I don’t expect a pickup in investor or homebuyer appetite anytime soon as near-term pressures remain – possibly with more defaults on the way. Still, I believe that the macro and policy backdrop is starting to ease and show green shoots. The property market is too important of a growth driver for an already faltering economy for the government to completely ignore. ​​

The government may ease monetary policies more in the coming few months, in the form of liquidity injections, a policy rate cut or further domestic bond issuances – all these would benefit a highly unloved sector. ​

Investment risks

The value of investments and any income will fluctuate (this may partly be the result of exchange rate fluctuations) and investors may not get back the full amount invested.​

​When investing in less developed countries, you should be prepared to accept significantly large fluctuations in value.​

​Investment in certain securities listed in China can involve significant regulatory constraints that may affect liquidity and/or investment performance.

_{1 https://www.reuters.com/world/china/chinas-state-council-held-meeting-with-property-developers-banks-source-2021-11-09/ ​
2 http://finance.sina.com.cn/jjxw/2021-11-10/doc-iktzqtyu6434037.shtml​
3 https://www.cnbc.com/2021/11/09/chinas-property-market-debt-an-issue-for-the-economy-george-magnus.html  
4 https://mp.weixin.qq.com/s/Twv7nizmkV269sY76c4tOw}

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