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Recovery on the Horizon for Chinese Property and Banks
Signs of Stabilization in China’s Property Marketing
China’s real estate market slumped over the last two years due to policy headwinds, a weak macro environment, lower household incomes during covid lockdowns, and an urbanization slowdown. Listed developers suffered more as their sales volumes decreased more than the national average level, probably due to the impacts of the three red line rules. As a result, developers turned very cautious in land transactions, which led to stretched local government financing while spending was rampant on Covid testing and lockdowns. The Chinese government, particularly most local governments, began policy easing in late 2022 to rescue troublesome developers.
Separately, after largely eliminating extreme poverty, China has now proposed common prosperity for its next stage of development. We believe real estate would be one of the key components to ensure a balance between economic efficiency and distribution. We’ll unlikely see nationwide property prices soar again to stimulate property demand or speculation.
However, on the bright side, national property sales ended with a significant scale of over one billion square meters in 2022 despite an extremely challenging environment.1 In the foreseeable future, organic demand for property is expected to remain above one billion square meters on the back of new marriages, urbanization rate of 65% and above, and city-level shanty town development. We expect the younger generation to continuously gather in higher-tier cities, provincial capitals, or metropolitan cities, while urbanization will continue to be the key driver for new housing demand.
Currently, local governments are providing lower premium lands in better regions to avoid land auction failure. Therefore, we may see margin improvement for leading developers with healthy balance sheets despite some scale-down. Compared to their prime days, development businesses will more closely resemble a fixed-margin manufacturing business on a relatively smaller. Company-wise, developers not involved with public debt defaults or have completed debt extensions/restructurings will be better positioned going forward, while weaker companies are consolidated or exit.
Property Rebound to Ease Bank Pressure
The worst time for Chinese banks will also be behind us when the property industry steps out of trouble. Chinese banks are closely intertwined with the broader property ecosystem: large banks have approximately one-fifth to one-third of mortgage loans and a single-digit of developer loans; the broader property ecosystem takes the largest part of China’s GDP.2 A better-than-expected property recovery would lead to, firstly and most importantly, fewer bad loans and a lower non-performing loan (NPL) ratio; secondly, improved mortgage demand and a reduced need for further monetary easing; and lastly, better sentiment within the economy, implying general fee income potential.
With the Chinese government stepping up efforts to assure the delivery of property projects, NPL pressure from buyer-initiated mortgage payment halts could be largely removed. Additionally, recent stimulus policies should help developers improve their liquidity and strengthen their capability to raise funds by themselves. A sustained recovery in property sales would also positively impact the land market, making credit risks from local government financial vehicles manageable. We also anticipate China’s economic reliance on the property market to fall from here, with developers and local governments developing new growth models less dependent on property sales and land transactions. As a result, the economy would be more sustainable with reduced leverage from a long-term perspective. Accordingly, it implies better revenue quality for Chinese banks and less valuation discounts applied in the long run.
Attractive Valuations for Leading Players
Sector valuation for property and banks has declined to a historical low point. Most high-quality names are trading far lower than a 1.0x price-to-book (P/B) ratio, which shows the degree of overconcern. Companies with healthy balance sheets could deliver high single-digit dividend yields after the extreme sector correction of share prices in 2022, which makes them more attractive as an investment.
As China’s property market steps out of the extremely dark time, we expect a moderate sector recovery carrying forward. Leading companies will be better off as the market consolidates, with less competition and policy tailwinds. Consequently, the dividend yield should remain solid in the coming years.
Staying Ahead with Mirae Asset’s Latest Insights
1. Source: Citi, January 2023
2. Source: HSBC, January 2023
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