China banks face real-estate dangers

By:
Rob Hartley
Published on:

The slowdown of the Chinese real-estate market is an increasing risk for the country’s banks, but government intervention might dampen the threat.

China real estate Qingdao Shandong-R-600
Residential buildings are seen among fog in Qingdao, Shandong province


China’s banks’ overexposure to the country’s troubled real-estate market could come to haunt them.

According to Fitch, property exposure is now the biggest threat to the viability of China’s banks, partly because of the reliance of the banking system on real-estate collateral.

In a report in May, the rating agency says residential mortgages and corporate loans backed by property have increased 400% since the end of 2008.

Property prices in China have fallen 6% in the past 12 months, the report continues, and banks’ total exposure to property could be as high as 60% of total credit exposure, taking into account non-loan financing to borrowers denied formal bank credit.

The prolonged downturn has not gone unnoticed in Beijing and there are now signs the government is attempting to breathe some life into the real-estate market.

"Over the last 12 months, the property market in China has been directly affected by the broader slowdown in the economy, which has resulted in lower volumes of residential sales and reduced levels of demand for commercial real estate," says Chris Brooke, executive managing director, consulting, Asia Pacific, at real-estate services company CBRE.

"In response to this situation, the government has introduced a number of policy-easing initiatives targeted at increasing demand within the residential sector. It would appear that these initiatives are now beginning to take effect, with higher sales volumes being seen in both March and April, and prices across major cities appearing to have stabilized."

He adds: "Demand from both office and retail occupiers has been relatively subdued over that last three months, with many international corporate occupiers and retailers adopting a cautious approach to relocation and expansion in the light of broader economic conditions.

"In contrast, demand from domestic companies has remained relatively strong. The key issue in future will be the high level of new supply of both office and retail accommodation, which will be completed in 2015 and 2016, which is likely to cap rental growth in many cities."

Stabilization mantra

Alan Liu, managing director, North Asia, at Colliers International, says: "Stabilization is the mantra at present. The government will not allow for capital values to depreciate, which will jeopardize social stability eventually.

"With this in mind, it is expected that the government may create more approaches to stimulate housing consumption, sustaining growth in property prices in the residential sector. For non-residential sectors, it is unlikely that the government will introduce intervening measures in the short to medium term."

Liu believes the residential market in China’s first-tier cities has become relatively positive since April, but remains lacklustre in non-first-tier cities because of oversupply, inadequate investment demand and less-active secondary markets.

"Chinese domestic banks are cautious in lending to either developers or individuals, and are less willing to offer [a] steep interest-rate cut, which has been introduced by the government," continues Liu, still referring to the residential sector of the Chinese real-estate market.

"However, considering the continued growing average selling prices or capital values of many secondary properties, balance sheets of most Chinese domestic banks are still healthy, and the impact of the fluctuations of market transaction volumes and sales prices to these banks is marginal."

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The ability of the banks to weather the risks associated with the real-estate downturn appears to rely heavily on the support of the government, where the situation will be being closely monitored for any further signs of weakness.

The government, as always, has several political levers it can pull to influence the sector. If the situation calls for it, it is unlikely to hesitate.

"Recent policy measures have encouraged banks to lend to first-time buyers as well as existing home-buyers looking to upgrade within the residential sector, which has increased volumes of activity in this area," says CBRE’s Brooke.

"In terms of the commercial sector, banks are adopting a cautious approach, given forthcoming levels of supply and the impact that this may have upon capital and rental values."

He adds: "We believe that the government will continue to gradually enhance the policy environment within which the real-estate sector is operating. This will include the continued support of demand in the residential sector, as well as indirect means of increasing liquidity for developers.

"Specific measures are likely to include increased levels of investment in infrastructure, interest rate and bank reserve ratio reductions, restructuring of local government debt, expansion of policy banks, and other initiatives which will support the growth of the domestic market."