Understanding the China Housing Crisis
The China housing market is a massive threat and may quickly become an unsustainable burden to global markets. China is the second largest global economy, and China’s housing market is twice the size of the U.S. and makes up about 29% of China’s $14.72 trillion GDP. Housing contributes only about 3-5% of U.S. GDP, which took down the global markets in 2008. CNN estimates that nearly 76% of Chinese consumer wealth is tied up in property and has been China’s primary driver of growth since 1978. China is the largest lender to developing nations. A significant downturn in China’s largest sector could substantially affect developed and developing markets.
There are three components to the Chinese housing market crisis. The components are millions of Chinese apartment owners have stopped paying their mortgages, over-leveraged developers, and falling home values.
Millions Not Paying Their Mortgage
It is common in China to buy an apartment before completion. Approximately 70-80% of new home sales are purchased and paid before construction begins. Apartment owners have stopped paying their mortgages on over 320 unfinished projects in over 90 cities. The residents stopped paying because they accused the developers of mismanagement of funds and more than a year of minimal and, in many cases, zero progress on the projects. The missed payments are unlike the U.S. financial crisis of 2008 when borrowers could not afford their payments. The apartment owners can afford their payments but refuse to pay until the projects are completed—the boycotted loans could total more than $350 billion. $350 billion equates to about 6.5% of all Chinese mortgages. The stoppage in construction happened because the developers were facing unprecedented liquidity problems. They did not have the money to continue. The BBC estimates developers need $444 billion to complete the halted projects.
China is mostly a state-owned economy. Special provisions were made for the real estate developers. For decades, the developers routinely abused their privileges and over-leveraged. In 2020, China instituted the Three Red Line policy, severely restricting developer borrowing capacity. The policy led state-run banks to stop loaning money to the already over-leveraged developers like Evergrande, Fantasia, and Kaisa. All three defaulted on their bond payments in 2021. The banks knew their high-yield bonds were unsustainable. It is estimated that up to 1/3 of Chinese developers may default bond payments in 2022. At least 18 developers have defaulted on bond payments this year so far, including another giant, Shimao Group which failed to pay the interest on $1 billion
Falling Home Values
Home prices in over 70 Chinese cities declined in July. July represented the 11th consecutive month of declining housing prices. Falling home prices and strict covid lockdowns have slowed sales. China’s top 100 developers’ sales dropped 39.7% from July 2021. Experts expect sales to drop an additional 30%. They said a 20% drop would decrease Chinese GDP by 5-10%. There is a genuine concern of contagion into other sectors. The banks won’t loan money if they believe housing is collapsing. In response, The People’s Bank of China reduced the interest rates for the second time this year to encourage buyers to return to the market.
Are U.S. Markets in Danger?
Over the last several decades, the world economy has become increasingly globalized and intertwined with China. According to the Office of the United States Trade Representative, China was the largest supplier of U.S. imported goods. The U.S. imports approximately $450 billion annually from China. It is impossible to estimate total market exposure, but it is substantial. When the news broke that Evergrande defaulted in 2021, the S&P 500 went down 5.2% in the following three weeks. Evergrande is the largest developer and controls about 4% of China’s market share China’s market share. The China housing crisis isn't just Evergrande’s 4%, but the entire housing sector.
What Can You as an Investor do With This Information?
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