Explained: Can China’s Real Estate Woes Turn Into India’s Gain?

Can China’s Real Estate Woes Turn Into India’s Gain?

by Debraj Bhattacharya - Friday, December 2, 2022 12:59 PM IST
Can China’s Real Estate Woes Turn Into India’s Gain?Chinese President Xi Jinping
  • From 1995 to 2021, China’s urbanisation went up from 29 per cent to 65 per cent, as against US where it took a good 70 years to raise urbanisation from 28.6 per cent to 64 per cent.

    However, a fall out of this steep rise in urbanisation and demand led to prices getting escalated.

The Chinese property market is in midst of a crisis. Real estate prices have sharply corrected and property buyers have hit the roads to protest against incomplete projects by developers.

Data is backing up signs of an ominous state of the real estate market.

According to a survey by China Index Academy (CIA), one of the largest independent real estate research firms, prices in 100 cities dropped for the fourth straight month in October at 0.01 per cent MoM, while September saw the number at 0.02 per cent.

Floor area sales fell in 100 cities by 20 per cent YoY. Chinese real estate giant Evergrande repeatedly failed to pay up overdue coupon payments since beginning of 2022, and that was followed shortly after by Kaisa Group Holdings.

Add to this the fact that real estate accounts for nearly 30 per cent of Chinese GDP, and we are clearly staring at a worrisome scenario. After all, a 20 year boom has caused Chinese property market to be the single biggest asset class in the world worth a staggering $50 trillion!

So, what caused such a turmoil in the world’s second-largest economy?    

Reasons for crisis: The liquidity crisis in the property market of China was triggered in August 2020, when the government introduced a regulatory requirement called “Three Red Lines” for property developers.

These stipulated that real estate companies adhere to the following:

  • Liability to asset ratio < 70 per cent

  • Net gearing ratio < 100 per cent

  • Cash to short-term borrowing ratio >= 1

The main purpose of the above regulations was to deleverage the real estate firms. A quick look at the property firms listed in Mainland and HK Stock exchanges would reveal that most of them would have crossed at least one of the three red lines.

As an example, for 2020, average liability to asset ratio for these firms was roughly 75 per cent and net gearing ratio about 1.4. Both these were outside of the red lines.

Once the regulations came to the fore, most of the investors shirked from buying into the real estate stocks, while banks and FIs chose to freeze lending. Thus, both debt and equity financing took a severe beating for these firms, resulting in a complete market freeze.

This was in a way reminiscent of the financial crisis of 2008.

Real estate demand in China had spiked up primarily due to urbanisation and increasing consumer demand.

Putting things into perspective, from 1995 to 2021, China’s urbanisation went up from 29 per cent to 65 per cent, as against US where it took a good 70 years to raise urbanisation from 28.6 per cent to 64 per cent. Clearly, demand for housing shot up.

However, a fall out of this steep rise in urbanisation and demand led to prices getting escalated. In 2020, average price-to-income ratio in China’s 50 cities was 13.4 (meaning house prices = 13.4 X average income).

US in comparison stood at 7.4 in 2021. The other reason partially for heightened price was speculation in real estate prices, given property comprises roughly 60 per cent of total household assets in China.

Such high property prices can slow down urbanisation, have a crowding-out impact on consumption, and exacerbate the rich-poor inequality. The government had naturally to intervene.

Chinese President Xi Jinping has oft repeated that “Houses are for living in, not for speculation”. The clampdown courtesy “Three Red Lines” that ensued led to the present turmoil in China’s real estate market.

Can India benefit from this?

The answer to the above question is a resounding yes. A few key reasons will help India make the most of this Chinese crisis. They are as below:

Softening of property prices due to rate cuts: The People Bank of China, in an attempt to revive credit demand and ease liquidity problems, recently trimmed its five-year loan prime rate to 4.30 per cent from 4.45 per cent, and its one-year loan prime rate to 3.65 per cent from 3.70 per cent.

  • This has caused a potential of softening of real estate prices in China. Investors are looking at flocking to India instead as a result. Inflows into India’s real estate market will go up.

Robust Indian real estate market: The NHB Residex House Price Index, that is widely used by policy makers, banks, companies, investors, and individuals to track quarterly house prices across cities in India, has shown a steady increase.

  • Not to forget the fact that post pandemic, with work from home taking center stage, this has been aided further. The increased push by GoI on infrastructure spending, aided by schemes like Gati Shakti, are leading to a robust housing and commercial real estate market.

  • From August 2020 till about November 2021, Nifty Realty index had gained around 163 per cent, and till November 2022, the increase is around 117 per cent.

Can China’s Real Estate Woes Turn Into India’s Gain?
  • If we look at few individual scrips in the real estate space, from June 2022 till about September 2022, Oberoi Realty shot up by 45 per cent, Prestige Estates by 25 per cent, and Phoenix Mills by 24 prr cent.

  • No wonder, leading indicator for Indian real estate is looking good, and a lot is a result of shift of demand from China. 

Benefits for Indian steel industry: The steel sector in China is heavily reliant on real estate sector, and as per one estimate, around 30 per cent of steel mills may be headed to bankruptcy given the turmoil in real estate space.

  • China happens to be the world’s largest steel producer, contributing to 57 per cent of global output. India comes a close second after China.

  • During FY 22, India produced 113.6 million tonnes (MT) of crude steel, that was 18.1per cent higher than the output for FY 21.

  • The Indian steel firms stand a good chance to replace the Chinese ones in the present circumstance, and that will bode well for Indian steel sector.

Cooling down of commodity prices: Since the war in Ukraine began, commodity prices, especially oil, have remained at heightened prices. The slump in Chinese property market will help cool off the commodity market a bit, that will help India and other countries.

  • A double-click on China’s land policy will reveal that compared to other countries, it’s land policy is unique. Part of this can be attributed to it’s distribution policy of land for housing and industrial purposes.

  • Between 2008 and 2021, a survey of 100 cities revealed industrial land at 50 per cent of total land, while 37 per cent was for residential purposes. Contrast this to the fact that industrial land price is only about 5 per cent of residential land price.

  • Thus, immensely underpriced industrial land alongside high housing prices spell double trouble for China’s real estate market. India can make the most of this and emerge a winner in this sector.

The Dragon is clearly in distress. Time for the Cheetah to make a prowl and capture the opened-up space.

Debraj is a management and digital transformation consultant, and has worked with leading consulting organizations globally. His sectoral expertise is Retail (apparel, grocery) and Consumer Goods. He had done his MBA from IIM-Ahmedabad, and he harbours an avid interest in policy-making.
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