China Real Estate. There Is No Bubble.

About Singaporeans and Taiwanese buying. Did they know that long term vacancies in China is able to accommodate total population of Taiwan and Singapore and Hong Kong, ans till have lots of leftovers for the rural to urban migration in China.

But I don't see a collapse in the real estates market in China in the short term. Not if the Chinese government wants to prevent a total collapse. The government can easily buy up lots of these vacant stuff and just keep it in "reserve", to be demolished in next few years, to be rebuild all over again, with government money. All of these vacant buildings were built with government money to begin with. I just don't see why they can't just do it all over again.

I rented my old apartment in Shanghai @ RMB9000 a month until the owner sold it for RMB7.4 million. After tax, that was about a 1% annual return on the value... not atypical either. The rent barely covered depreciation on the fitout, much less covered interest costs. Tens of thousands apartments empty in Pudong, 16,000 empty apartments in the Chaoyang district of Beijing alone. Tens of millions of empty apartments and houses across the country. 30 million low income rental units to be completed by 2015.

As Stark points out above, there is an incredible disconnect between the supply and the demand from ordinary people. There is no doubt that a very large amount of housing is required to accommodate people moving into the cities (who will not be eligible for low income rental housing) but prices are insane. Even in Tier 2 & 3 cities (where incomes are lower), prices at 10-20,000 per square meter are way above what ordinary folk can pay. Almost every new development, even those way out of town, is pitched at the high end of the market.

For the moment, the vast amount of cash floating around the Chinese economy is soaking up the supply as cash needs to be parked somewhere. However, the ponzi game can't continue indefinitely without an incredible cost to the Chinese economy. The absolute mismatch between demand for affordable housing and endless new developments of poorly constructed, overpriced and empty apartments continues.

As I recall, The Economist, has always taken the view that real estate should return a 5%+ rental yield or be considered overpriced. I don't think landlords anywhere in China are achieving that kind of return based on current values.

The Chinese have made the greatest misallocation of capital since the construction of the pyramids. In 2008, the Chinese government ordered the banks to lend and they did it without regard to business plans and underwriting standards. As a result they have overbuilt luxury housing market (there is enough empty apartments for 600 million people), office space (there's 25 square feet of office space for every man woman and child in the country!), airports, railroads and malls. Few of these projects have any chance of making a positive return on investment. Spectaculars including the State Owned Enterprises have flooded the market.. As their investments fail, these companies and individuals will create an enormous number of non-performing loans (NPLs), which is on top of all of the NPLs already being carried by Chinese banks in off-the-balance sheet devices from the last decade. When investors realize that they can not sell or rent their properties, they are going to stop investing and building. And when new construction makes up 60-70% of their GNP, that's not a big problem, it is a catastrophe.

No matter how all powerful some people believe the central government is, it is still a huge bureaucracy. Do you really think these guys are smarter than the Fed in 1928 or Greenspan in 2004? The Chinese can keep inflating the money supply and then they get inflation which is really bad for the 800 million Chinese peasants who would starve. Implement price controls or regulations? Investors will run for the doors. Can they shift the ten, twenty or forty percent of their economy from construction to consumer spending without significant disruption? Not in less than a decade. There is no soft landing here.

When, will this happen? It has already started.

This idea would make sense for the big cities like Shanghai and Beijing, but it seems like every single town in China is building to house thousands of migrant workers. From reading other economists take on this subject, it sounds like this boom is being sustained by cheap loans, which are adding to China's inflation problems.

Hi Dan:

You've brought up a subject that is at the forefront of conversations with my Chinese friends. I wish I had an anwer to your question. The rational mind would probably say that the increase in property acquisition cost is not sustainable considering the migration of low income people to the cities. The other side of the coin is most property acquistion here is paid for with cash so there is no debt to service and I would submit, that there is no pressure on the owner (that has purchased for speculaton) to reduce their sale price. They will just wait it out (this is totally true in Beijing). As an example, I have a house in Chongqing. My building is 90% vacant but all the apartments are sold. I believe most property is pre-sold (I purchased before the property was built) with the owner having no intention of living there. While not the only reason, this is one reason a person can look at empty buildings and assume there is a over supply problem. I think somthing will give in time but not anytime soon.

1. When I lived in Shenzhen, numerous agents I spoke to were manically optimistic about the market in SZ, Guangzhou, and Dongguan. I left SZ last year and recently there has been a marked uptick in calls from these agents (mind you I haven't spoken to some of them since last October) asking if I am interested in buying property. If the value of property were so certain to increase, would agents have to reach out to cold contacts to get deal flow?

2. I had always thought that the RE market was a safe vehicle for SOEs to park assets as their other investment options were monitored/limited.

Harris: I ask the people in the car with me (usually Chinese lawyers) why they think Chinese real estate prices keep going up even though there are so many housing units already available.

That's much of the problem. There aren't many housing units already available. Someone has spare cash so that they put the money into real estate. So they have a concrete shell of an apartment. The trouble is that in order to rent out the apartment, they have to spend money making the interior liveable. Since rents are low compared to capital gains, and since they paid cash and there are no property taxes, they have no incentive to rent out the apartment.

The government has been trying to deal with this by introducing a property tax, but like all taxes, this tends to be unpopular, so people are moving slowly.

The big problem is that there is a lot of cash, but no real place other than real estate to put it.

Logic works in all countries. But Western logic usually doesn't work well in China.

That is why almost ALL predictions about China in the past 20 years have failed to materialize.

But this one is tricky. You have bets on both sides of the coin. You can't really lose, can you?

Back in the 90's I was in my 20's and working in HK. I remember having a conversation with my Chinese boss (Im Caucasian American). He was telling me 1996 how I needed to invest in housing in HK as soon as I could and that the price of real estate had been going up and up since the 1970 and it was a sure bet. I, at the time, did not have any money to buy an apartment in HK, but I am glad I didn't. Within the next 18 months, the HK market crashed and prices dropped by more than 50% on average (I wish I did buy in 1998).

But the point is, whenever so layman (Lawyers included) say that the market will go forever, that is the first sign that the market is already in a bubble.

The second point I would like to make is about the "Market" in China. It is not a market as you an I think of as a market. So to think it functions like one is foolish.

Most Chinese have their personal fortunes tied up in property. If the market goes bust, they will be very angry. Who will they take it out on. The government who they cannot hold accountable. Therefore, the governments own interest of survivability are interconnected with the price of property. Therefore, the government will do EVERYTHING to ensure that investors do not incur huge losses on property or else it will be the end for those in Beijing.

The Chinese people know this, so that is why the price continues to go up, even though the government it trying to stabilize it.

It looks to me (I'm no expert, but I do own a property in Beijing) like there in effect a few entirely separate real-estate markets in China. One is high-end residential, another high-end commercial, and then there's a broader residential and commercial market. The high-end stuff is traded among well-heeled individuals and companies, including quite a few foreign buyers. There might be a price correction in that market, hard to say, it's a function of many things including of course the exchange rate, because to an extent that property is going to be compared in value to similar property in other big international cities; and it also depends a lot on the overall condition of the Chinese economy, how many new businesses are being set up, etc. It's hard for me to imagine it being a real disaster if that market has a correction. The broader residential and commercial market? Looks to me like, roughly speaking, everyone in China is going to acquire a new home over the next generation or so. That's a lot of homes. In the U.S., as agriculture was gradually automated, there was an absolutely tremendous migration to cities. That's just beginning to place in China, I think.

Mick has a good point. HK's housing booms corresponded with societal needs. When the city was just developing and industrializing -- and turning into a major financial centre -- the British built tons of practical, affordable family flats. After HK got rich, developers started building more luxury flats. But a high proportion are still "public flats" for the average family. Like everything in HK, it's market-driven.

While mainland cities are rich, the grand majority of the mainland is not -- and there is this weird disconnect between what most people can afford and what is being built.

I'll reserve comment on whether HK property is overpriced (that's far too long a tangent). But I will say that my normal middle-class local family -- who are teachers, nurses, shop-owners, factory managers, etc -- can afford flats worth several million RMB / HKD, albeit with the help of a punishing mortgage. (I'm the owner of one of these mortgages myself!)

Another difference is that discussion of the HK real estate market is basically clear of politics. Nobody feels the need to defend the market on the basis of face or patriotism. This is a business city, and people talk in black and white figures. So it's easier to figure out what's going on -- though, unfortunately, probably no easier for us laypeople to guess the future.

We're beginning to see big towers that are mostly empty, since they're being bought by mainland buyers who need a place to park their money. (The rumor here is that much of that is laundered cash, though I haven't seen any proof of that yet). Whereas HK landlords may buy for investment, but they'll splurge to clean the place up and get rent from it.

I think a Chinese property tax is a good idea. If you don't want to squeeze the little guy, keep it to luxury properties. When my husband and I bought, we paid a hefty stamp duty. Now we pay monthly government rates. I can't say I love handing cash to the government, but this is how HK manages to pay for its good public health care, education, etc.

Chris: the next 18 months, the HK market crashed and prices dropped by more than 50% on average (I wish I did buy in 1998).

On the other hand, if you bought with cash and didn't have to sell, then you would have made a killing since 1996. Even with the crashes, real estate prices today are a lot higher than they were in 1996.

One thing about the Economist article is that it doesn't say that the Chinese real estate market won't crash over the next two years. The article is that it may do what HK did and then crash and rebound.

HK has a weird property market. The property is expensive, but that's somewhat intentional so that the HK government can make money through land sales and taxes. By keeping property values high, the government can get away with keeping taxes on other things low. The other thing that is good about HK is that because the government has an interest in keeping land prices high, there is a lot of green undeveloped land in HK which is used for parks and recreation.

Also the best response to the idea that the Chinese market is overbuilt is to point out that migrants have an extremely tough time finding housing. Most Chinese apartments are priced way, way out of the reach of migrants so they tend to live in either in factory dormitories or cramped and often illegal "ant houses."

One other significant difference between China and the US is that the terms of loans are different. Mortgages require significant down payments, and there is no such thing as a fixed interest loan.

As I understand the down payment for a home was significantly lower in 08, 09, 10 then before that and that the banks leant a lot of money out to private individuals for investing in housing.

Another issue is that the quality of housing in China is not very good. A Chinese real estate investment needs to be maintained and will require a fairly large reinvestment. The need for new plumbing, replacement of electrical circuits, insulation (as energy prices rise) and correcting construction errors will grow very fast as there were cut corners in the building process in the last years and there was a lack of building experience in the last 13 years. These issues have to be fixed in an environment where the price of labor is raising faster than in the years where unites where build.

Home owners who own housing for investment proposes will be reluctant to fix these issues and developers’ legal responsibility will have run out when problems start arising. Add to this that there are time limited ownership rights attached to these houses (40, 50, 60 or 70 years) where some unites are already down to 40 odd years.

So real estate unites in China need maintenance, have time limited ownership and as of lately are based on bank loans. This should put pressure on the prices as the buyer will be reluctant to take on these responsibilities. The idea that one has to own a home will slowly fade in China as the social and economical environment changes for the better and as the younger generation will be able to take over the homes of the older generation.

Andeli: I sure hope you don't work with stocks for other peoples money.

Rule one when you invest other people's money. Stocks can go to zero.

Andeli: Any stock with the name China in it will never go to zero. If The Bank of China stock where to hit zero then that would mean that the The Peoples bank of China would be bankrupted -not likely.

GITIC went to zero. The government will move heaven and earth to make sure that bank *depositors* and *workers* get their money, but the government has no particular reason to bail out *shareholders*. As far as non-financials, the government has even less reason to do a bail out. Yes the government will protect depositors and workers, but as a shareholder, you end up the in back of the line if anything goes wrong.

The variables involved in the mainland China real estate market make judging the current market particularly difficult.

--Lack of domestic investment alternatives. The domestic stock markets do not enjoy broad favor, maybe because they have tended to be unstable. Bonds tend to be low yielding, and mutual funds have high fees and are not very transparent. There's great entrepreneurial spirit in China, which can be an outlet for private equity, but regulatory burdens and hindrances and other market-distorting factors (e.g., bureaucratic interference and favoritism, lack of market transparency, wierd investment rules) mean businesses have to spend more time greasing wheels than making a good product or delivering a competent service. These things could all change, though when and how is anyone's guess.

--Lack of foreign investment alternatives. Chinese parents are keen to send their kids abroad to study because it's at least one easy way to make a "foreign investment." All sorts of restrictions are placed on shifting RMB into foreign investments. The truly wealthy can, I suppose, find ways. The restriction is two-way, of course, all sorts of limitations on how foreign money can be used in China (from property investments to restrictions on the activities of foreign commercial and investment banks). The landscape has changed a bit---the RMB is moving toward convertability--but the government still loves its capital controls.

--There has been no recent experience with a nationwide falling real estate market. Here is one interesting parallel with the U.S. real estate market. Neither country had experienced a signficant real estate downturn in recent memory until the U.S. market tanked. There had been a combination of growth and plateaus since the 1970s. Widescale real estate losses in China were last experienced 60 years ago, when the Communist Party came to power and confiscated private property. (I'm not including phenomena like the big downturn in Shenzhen that started a couple years ago because they have been geographically limited.) This must influence the psychology of the real estate market in China.

Real estate transactions are relatively easy and Chinese are unusually fond of property ownership. The desire to own a home may be related to the rural origins of Chinese society. Chinese are, at heart, farmers, and real estate conveys a sense of security and wealth that has a long history here. This warm and fuzzy feelings might dissipate during a crash, as they have in the United States, but their roots here in China are deeper. In addition, life in China can be pretty unstable. Government policies are unpredictable and a culture of secrecy can leave one feeling a bit "in the dark" about what's going on. In such an environment, it's nice to have a little place that can serve as a refuge from the storm.

And there are plenty of other factors, some mentioned above, such as the lack of property tax. China is, of course, a land of taxation without representation, which is why the government does all it can to make the tax burden as unobtrusive as possible. As I explained to my Chinese colleague, people who make property tax payments tend to think about what their government is doing (or not doing) for them. This is one obvious reason why Chinese authorities prefer to sell land-use rights (for an inflated price, which contributes to high retail prices for individual properties). The individual buys the property and makes what is, in effect, a large and hidden one-time tax payment.

It seems like the government needs to incentivise people to fit out and rent out the rows of empty apartments. Probably through a vacant property tax.

Rows upon rows of poorly built apartment blocks, not fitted out, not fitted out, not maintained or managed... Held by investors for capital gains... Looks like a bubble.

Hey guys, interest discussion so far. I am a Canadian Chinese who has relatives and friends working in government or as high level executives for big companies, and here is what I got from them so far.

First, the housing price is very unlikely to go up astronomically in the future should the tightening monetary and real estate policies continue. In my opinion, people who think otherwise usually derive their conclusion from two points: First, there is huge influx of rural residents into first-tier cities everywhere. These people will create sustainable demand for more apartments. I believe this is more wishful thinking than reality. Say you graduated from top universities and have the opportunity to land a 100k job (which is nearly impossible), it will still take up to 20 to 30 yrs of your annual salary to buy an okay apartment in Beijing. Usually it will take saving of THREE generations to buy just ONE apartment. If this is not bubble, I don't know what is. More importantly, most of these believers are so convinced that the government will have no choice, but to keep pushing up the property price because it is such a big part of China's GDP (Fixed investment takes up to 40% of the annual GDP output, I think). However, government is addressing this issue by planning to construct massive quantities of affordable housing, which will help sustain the demand for everything from concrete to furnitures.

I think the most important reason why the government cannot let the housing price rise any further is it has turned into a social problem. If CCP cannot effectively address this, their survival is at stake.

The most optimal scenario is the housing price will remain relatively flat while income level continue to rise. This will hopefully narrow the gap between the rich and poor somewhat and make housing slightly more affordable. If the trend persists long enough, people will become less pissed off and go back to minding their own business.

We will see what happens....

You all seem to be looking at this the wrong way
A large proportion of locals own their apt. (80 to 90% in some cities)
Where i come from -Europe- we are at 50% of owners.

On another hand
Let's consider Sh
Average square meter price between 20 to 25k
Average Sh Salary, let's say 4'500 after taxes

Back Home
Average price per SQM : 8'000 Euro
Average Salary, 2'000 Euro after tax deduction

It's quite close actually

As a professional real estate investor working in China, I'll put my vote up for no serious bubble. It's very hard to judge the property market in first tier cities because there are so many wildly rich investors holding dozens of units as well as weird cultural and political factors that have a huge impact on the markets in Beijing, Shanghai, etc... There could or could not be a bubble in these places, I really just don't know.... but as for Tier II, III and IV cities, I'm very confident there is no serious bubble. Supply of quality units is still hugely below demand and that should keep prices stable or rising for the medium to long term (there may be very short term pull backs, but nothing that sticks). While residential prices have risen substantially, the rise in disposable income levels has outstripped the rise in prices in many Tier II and III markets

hi,

Thank you for your nice article on China Real Estate. There Is No Bubble

thanks

At present, 300 MM Chinese are long-term city residents, whereas 1 BN Chinese are farmers or migrant workers who live in either rural villages or non-commercial real estates in cities provided by their employers.

20 years from now, the urbanization movement in China will come closely to an end, when 2/3 of her population will be permanent city dwellers. And 2/3 of China's population then represents roughly 900 MM Chinese, given an estimate of total population of 1.8 BNs.

A surge in the total number of Metropolitan residents from 300 MM to 900 MM in 20 years indicated 30 MM newly added demands for commercial real estates.

TO UNDERSTAND CHINA'S CRE INDUSTRY, ONE MUST FIRST COMPREHEND THE SIGNIFICANT IMPACT OF URBANIZATION ON THE DEMOGRAPHIC CONTEXTS IN CHINA.