China's property sector will hold back the country's growth in the years ahead, according to a new report from Goldman Sachs (GS) , and won't be the economic driver that it has been in past recoveries. If true, the findings suggest China is entering a new period of expansion where growth (and likely share-price gains) are less-explosive.
"We only assume an 'L-shaped' recovery in the property sector in the coming years," a Goldman team led by China economist Wang Lisheng write in a note sent to clients on Sunday. As a result, property weakness is likely to be a multiyear drag on growth. "We see persistent weaknesses in the property sector, mainly related to lower-tier cities and private-developer financing, and believe there appears no quick fix for them."
Quite rightly, the Goldman research team point out that the top priority for policymakers is to stem the downturn in the property market rather than supercharge another upward swing in prices via easy credit. It is possible that the central People's Bank of China will cut interest rates when it announces the medium-term lending facility on Thursday, although the consensus call is still for it to stand pat at 2.75%. The government is leery of introducing too much stimulus into the system, which has led to bubble-type growth in the past.
Chinese property stocks have burst to life in the last month. Precisely ticking upward since the start of June, the Hang Seng Mainland Properties Index has advanced 14.4%, reversing a long-term slide since the start of 2020. With the share price of even the best-developers badly beaten up, bottom feeders have clearly been doing a little fishing, betting on the government bailing out the sector.
But there's danger in that process, and it will only pay to select the strongest developers. Many others will fall by the wayside before this correction is over. I wrote last week how there's concern of stock-market delisting for 11 of the weakest among their ranks, if they can no longer sustain a share price above C¥1.
The property sector is historically the most-important part of the economy in China. Real estate directly contributes 6.1% of the world's second-largest economy, with construction constituting another 6.9%, according to Statista, while the secondary impact of those sectors spilling over is huge. Property is also the first investment of choice for the Chinese public. Given the high volatility of Chinese stocks, anyone with any money will first consider pumping it into bricks and mortar.
So there will be a decided lack of any "wealth effect" in China's recovery if property prices remain subdued. The market has been under pressure ever since the Beijing government introduced its "three red lines" in August 2020, requiring developers to meet certain standards of levels for leverage. That effectively torpedoed the past model for property companies: sell projects "off plan" before they're built; take deposits on apartments; use the capital for construction; use any excess money to buy more land for the next development; repeat the process, and recycle the cash as quickly as you can.
The past procedure allowed developers to achieve massive scale, quickly. But it left them on shaky financial ground, and extremely highly leveraged. Once Beijing started setting capital standards, many ran into cash-flow concerns, leaving them stuck for money to complete projects, and shaking confidence among buyers that any apartments sold on paper would ever get built.
Local governments supported developers because developers bought a lot of land from said governments, generating much of their funding. But Beijing is aware this created an unhealthy union between local officials and developers, with plenty of motive for bribery and under-the-table deals to get land sold, approvals processed, and projects built.
Many local governments are in a desperate financial position due to the expense of the zero-Covid policy designed to eliminate the virus. They had to pay for the virtually omnipresent daily Covid tests many people had to take, as well as the tracking of close contacts of anyone who became infected. So those governments are very keen to encourage a rebound in the property sector, with second-tier cities such as the port city of Qingdao and Suzhou near Shanghai recently easing restrictions on mortgage lending and home purchases.
The Goldman team expect further supportive measures for the property sector through easing credit conditions and mortgage down payments. More cities may adapt their rules on how many homes people can buy or how quickly they can sell them.
However, before the pandemic, Chinese President Xi Jinping had stated that "Houses are for living in, not for speculation." Xi also championed decidedly Maoist causes such as the need to redistribute wealth and prevent the "disorderly expansion of capital," criticism directed at entrepreneurs, Big Tech, the stock market and property investors.
Those themes may return if the economy is back on surer ground. "Looking ahead, we expect policymakers to stick to their long-term policy goals such as 'common prosperity' and the 'dual circulation' strategy, which suggests a likely endgame for the property-sector policy," the Goldman team outline.
Last week, the state-run Economic Daily published an editorial warning that it will take time for any support measures to pay off in the property sector. "We should show more patience and confidence in the stabilization and recovery of the property market as well as its continued stable and healthy development," the commentary said.
Nomura likewise warned last week that the stock market may be getting ahead of itself on the prospect of stimulus for the real-estate sector.
"While we are looking for Beijing to take action to arrest the downward spiral, we have a low expectation of what Beijing can do and achieve," the bank's China economics team led by Ting Lu write. "Markets tend to jump on such stimulus-related speculation, but we think it will be different this time. We would take any analogy between now and previous stimulus packages with a grain of salt and, unlike the decision to end the zero-Covid policy, we see no miracle solution that can have an immediate impact on the property market."
