Wednesday, October 20, 2021

Evergrande: China’s big property bet – a cheaper version of Trump’s real estate deal?

Evergrande is a petrochemical company, but the Chinese company is also one of the world’s largest property developers. With a market capitalisation of $78bn, it’s worth more than rival Country Garden or the Vatican City, and has built a residential infrastructure in major cities like Beijing and Shanghai.

But investments in US farmland could backfire: The investment was originally a play on rising US yields – local farmers were marketing to China. It hasn’t worked out so well: After Donald Trump won the US election, there was a sharp drop in prices, particularly of farmland for industrial and other agricultural use. Evergrande, a heavily indebted company with debts approaching $10bn, had heavy debts at the time of its deal.

The funds will go toward helping local farmers, and will help Evergrande pay back the $7.1bn it borrowed from Sinopec. If Evergrande is unable to repay this debt, the city of Shenzhen could ask the central government to take over and keep the project afloat. The construction contracts in debt would also likely go unpaid.

Given that all this might be worth trillions to the country if Evergrande were able to pay off its debts, it would be bad news for the Chinese economy. On Monday, credit rating agency Moody’s downgraded some of the biggest local governments in China, warning that their debt could hit unsustainable levels unless governments start cutting back.

If Evergrande had stopped paying its debts, it could have caused a financial crisis that could have affected the entire global economy, says Peking University’s Dr Zhou Ke.

“If Evergrande defaults, which is relatively unlikely, the debts would become unsecured,” he says. “No bank would want to borrow money from Evergrande.”

So far, the fear of contagion, as many refer to a full-blown financial crisis, has not hit the Chinese property sector. With Worings of a money-printing and debt crisis in the eurozone back in the news, investors are more likely to put their money into Chinese property projects, explains Jing Ulrich, JP Morgan Asia chairman. “Some of the sentiment changes can be directly attributed to the headlines from Europe,” Ulrich says.

In fact, the Chinese property industry may have already passed a critical point, Ulrich says. The government has vowed to “resolutely combat” potential overheating, and national authorities have also had to play down the housing bubble, which had been bubbling up in cities such as Beijing and Shanghai.

“We have not had a situation where property prices have become so overvalued that would make the state government in China get negative,” says Ulrich. “In terms of the government problem, it is a city-level problem.”

China’s policy can clearly be seen through their attempts to crack down on corruption and their efforts to put more money into infrastructure projects. Along with the cash infusion, developers are also now paying out higher prices.

“Property prices have actually become much more rational,” says Ulrich. “So as prices have risen since the crackdown on corruption, people have decided to pay more.

“These price rises have helped the construction market in a way that has lessened the risks.”

Without the bond fund investments, China’s developer could have a hard time. With problems like those with the Evergrande’s check-writing, money becomes more limited.

Whether or not this ends up costing the Chinese government could be hard to predict, but keep an eye on prices in China, says Ulrich. “We will need to watch closely because China has shown at least a willingness to use fiscal spending, direct lending and the local government funds to address problems like Evergrande.”

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