SinoInsight 1
1. The Federal Reserve warned in its semi-annual Financial Stability Report that China’s real estate sector “posed some risk to the U.S. financial system,” pointing to China Evergrande and other heavily indebted companies as a possible source of global contagion.“Given the size of China’s economy and financial system as well as its extensive trade linkages with the rest of the world, financial stresses in China could strain global financial markets through a deterioration of risk sentiment, pose risks to global economic growth, and affect the United States,” the Fed said in the report.
2. According to Reuters, some holders of offshore bonds issued by a China Evergrande Group unit have not received interest payments due on Nov. 6 by the evening of Nov. 8. The unit, Scenery Journey Ltd, was supposed to make semi-annual coupon payments worth $82.49 million on its 13 percent November 2022 and 13.75 percent November 2023 U.S. dollar bonds.
3. Evergrande raised $145 million after selling a 5.7% stake in Hong Kong-listed HengTen Networks Group Ltd.
4. Bloomberg News reported that Goldman Sachs Asset Management is buying Chinese real estate debt. The firm added a “‘modest amount of risk’ through high-yield bonds issued by China property developers and denominated in U.S. dollars.”
5. Officials from the Development Research Center, the PRC State Council’s think-tank, met with representatives of property developers and banks in Shenzhen, according to various news reports (see here and here). Some of the companies in attendance include Kaisa Group, Excellence Group, China Vanke, Ping An Bank, China Citic Bank, China Construction Bank, CR Trust, and Southern Asset Management.
At the meeting, Kaisa reflected that it was “facing significant difficulties and some financial institutions had transferred funds from its accounts,” according to Reuters. It also requested that “lawsuits seeking to freeze its assets” should be “handled centrally in a Shenzhen court.”
According to The Wall Street Journal, Kaisa executive director Li Haiming said during the meeting that the company missed a payment to investors a week ago from the meeting, and added that developers like his company are “facing a severe liquidity crunch and could be saddled with unfinished so-called zombie projects.” Li also suggested to the State Council officials that “banks should be allowed to continue to lend and extend loans” and “state-owned firms should be encouraged to acquire projects from troubled developers to help them replenish their cash flow and build market confidence.”
Nov. 9
1. KE Holdings (Beike Zhaofang 貝殼找房), a website tracking new, second-hand, and rental housing data, issued its financial report for the third quarter of 2021. Per the report, KE’s total transaction volume (GTV) in the third quarter was 830.7 billion yuan (down 20.9 percent year-on-year). Of the total transaction volume, second-hand home transactions were 378.2 billion yuan (down 34.3 percent YoY); new home transactions accounted for 410.1 billion yuan (down 2.5 percent YoY); and other housing services were 42.3 billion yuan (down 20.4 percent YoY).
2. Zhang Dawei, chief analyst at Centaline Property, told mainland media that property market activity has been inhibited across the board as buyers are experiencing difficulties in securing loans for second-hand housing. This phenomenon is more prominent in first and second-tier cities where the proportion of available second-hand housing is higher and the current loan cycle exceeds three months, making it hard for buyers to receive loans during the year. Zhang noted that second-hand housing transaction volumes are already at multi-year lows in Shenzhen and other cities.
3. Per mainland media reports, the People’s Bank of China (PBoC) put forward the following requirements to financial institutions:
- Associated debt acquired by property developers during merger and acquisitions will not count towards their “three red lines” limits (this facilitates efforts by developers to offload assets and carry out debt restructuring).
- Financial institutions should accelerate the allocation of real estate mortgage loans and development loans.
- Banks can rollover the debt of real estate projects. Also, loans should not be withdrawn in the short term from property companies whose ratings have been downgraded.
- Major banks should approve individual housing mortgage applications that have been backlogged for more than five months.
- The China Securities Regulatory Commission may reopen the approval process for the issuing of asset-backed securities (ABS), which was previously halted in August (property companies can then issue ABS to pay off their old debts, forestalling concentrated debt defaults in the sector).
- The National Association of Financial Market Institutional Investors will assist better-performing real estate companies in issuing medium-term notes (MTNs).
1. The PRC authorities are considering easing regulation to allow “struggling developers sell off assets to avoid defaults and hits to the broader economy,” according to The Wall Street Journal.The PBoC is “considering opening a pathway for financially strained property firms to unload projects by allowing the buyers, likely state-owned firms, to take over the assets without having the projects’ associated debt affect their own debt ratios,” the Journal reported, citing people familiar with the matter. “It would be a way to let you live. Not just die,” one of the people said.
2. The Wall Street Journal reported that the PRC authorities plan to “manage a controlled implosion by selling off some Evergrande assets to Chinese companies while limiting damage to home buyers and businesses involved in its projects,” citing people familiar with the matter and official government statements. While “looking out for foreign investors isn’t a priority,” Beijing is keeping a close tab on the situation because the authorities “need credit markets to be healthy to prevent other property developers from failing and because they worry about China’s image.”
The people familiar with the matter say that taking Evergrande apart could take years with many details still being worked out. “It’s possible some version of Evergrande could survive, though it would likely be much smaller,” the Journal said.
Currently, local governments in areas with Evergrande projects have set up task forces to deal with the crisis. According to the Journal:
- “Local authorities have been ordered to assemble accountants to examine Evergrande’s local finances, talk to other developers about completing unfinished projects, and set up law-enforcement teams to monitor any public discontent”;
- “Local authorities have required Evergrande to transfer revenues from unfinished homes to escrow accounts overseen by the government”;
- “Local governments are funneling some of that money to Evergrande’s suppliers so construction can continue … Evergrande has had to submit applications to the government-managed accounts for the funds to be disbursed”;
- “In some places where projects weren’t as far along, local governments have urged Evergrande to scrap work entirely and return payments to home buyers … Local authorities are talking to other developers about taking over the land.”
Zhang Xu, fixed income chief analyst at Everbright Securities, told mainland media that while the medium- and long-term loans to residential households in October saw a limited year-on-year increase by 16.2 billion yuan, the increase nonetheless snapped a five consecutive month streak of slower growth. Zhang added that the October increase indicated that residents’ willingness to buy houses has risen marginally.
4. Mainland real estate stocks surged, with Poly Real Estate (up 7.57 percent), Gemdale Corporation (up 6.35 percent), and Vanke (up 4.17 percent) seeing notable gains. Shares of mainland real estate companies in Hong Kong also rose, with the index tracking real estate shares increasing by 3.55 percent and Evergrande up 3.04 percent.
Mainland real estate bonds also rebounded on the whole, with the notes “21 Yangcheng 01” rising more than 12 percent, “20 Jinke 01” rising by over 11 percent, “15 Shimao 02” rising 11 percent, and “19 Shimao G2” and “20 Jinke 03” increasing by nearly 10 percent.
Nov. 11
1. Evergrande made a last-minute overdue payment on three dollar bonds to customers of international clearing firm Clearstream. Evergrande’s payment and hopes that the PRC government will take action to avert a hard landing for the property sector saw a Hong Kong index tracking real estate A-shares rise 9 percent and the Hang Seng Mainland Properties Index close up 5.6 percent.
2. The China A-share real estate index jumped almost 6 percent, and the real estate sector’s market value increased by nearly 100 billion yuan.
Nov. 12
Guo Shuqing, the chairman and Party secretary of the China Banking and Insurance Regulatory Commission (CBIRC), presided over an enlarged meeting of the regulator’s Party Committee.
The meeting called on the CBIRC at all levels of government to prevent and resolve financial risks, balance the relationship between stable growth and risk prevention, and hold the bottom line of ensuring no systemic financial risks. Regulators should also stabilize land prices, housing prices, and expectations, as well as curb financialization tendencies and the “bubble-ization” of the real estate sector.
The meeting also called on the CBIRC to step up the disposal of non-performing assets, continue the rectification of the shadow banking industry, accelerate the risk resolution of high-risk financial institutions, and crack down on illegal and irregular financial activities.
Nov. 13
To date, local governments in 21 cities in China have issued so-called “price decline limitation orders” (限跌令), according to incomplete statistics compiled by Yicai Global. Some local governments have enacted “price decline limitations” by directly issuing administrative orders, while others have resorted to “interviewing” real estate developers to caution them against “malicious price cuts” lest the government does not approve the online application (網簽) required to complete a housing transaction. Aside from Shenyang and Kunming, the bulk of the cities that have enacted “price decline limitations” are third, fourth, or fifth-tier cities.
Yicai also reported that the “work collateral housing” arrangement (工抵房) is becoming increasingly common as China’s property sector faces growing downward pressure. The “work collateral housing” arrangement sees a developer mortgage the housing project to the builder in lieu of making payment for the construction. Builders then sell the mortgages at a low price to cash in. The arrangement is on the rise not only in third and fourth-tier cities, but also in first and second-tier cities like Guangzhou, Xiamen, Chengdu, and Nanjing.
Centaline Property chief analyst Zhang Dawei told China Business News that some property developers are turning to the “work collateral housing” arrangement as a “covert” replacement for commercial papers. Meanwhile, builders can only get money out of the construction project by accepting the arrangement.
OUR TAKE
1. The Wall Street Journal’s Nov. 10 report on how the CCP is handling the Evergrande situation aligns closely with our analysis in September. The CCP will not want “too big to fail” Evergrande to go under lest the real estate sector suffer a catastrophic “hard landing.” To defuse the Evergrande crisis, the CCP is dragging out the debt resolution process to buy time for the company to meet its obligations, and minimizing the number of failed property projects to maintain social stability.
The Evergrande situation, however, is clearly impacting other property developers (particularly Kaisa) and depressing the real estate sector on the whole. The seriousness of the real estate sector crisis is underscored by the CCP’s recent effort to relax financing regulations and tweak its “three red lines” limit. The loosening of financing regulations allows struggling real estate companies to offload their assets to make repayments or restructure their debt, while encouraging financial institutions that are in relatively good condition to take over assets from troubled property developers. In the ideal scenario, the recent relaxation of regulations would see real estate companies tide over their debt and liquidity woes, arrest the trend of falling property prices and avert systemic financial crisis, as well as improve the image of the mainland property sector and boost foreign investor confidence in China’s economic future.
2. We noted in numerous newsletter entries that the Evergrande crisis will have a ripple effect on the real estate sector, seriously affecting the ability of mainland property developers from securing financing, further aggravating their debt problems, and resulting in more debt defaults.
The second half of 2021 has seen several Chinese real estate developers default on their debt, including Sichuan Languang, Fantasia Holdings, Sinic Holdings, Modern Land, and Kaisa. According to Wind, Chinese property companies have defaulted on at least 33 bonds worth 34.266 billion yuan thus far this year, with some of these companies being unable to make payment notes worth billions of yuan despite having tens of billions of yuan of liquidity on the books (a “book rich” phenomenon). Rating agencies then proceeded to downgrade the creditworthiness of these property companies; by the end of October, Moody’s, Fitch, and S&P downgraded Chinese property companies more than 100 times, or more than double the number of downgrades as compared to the same period last year.
U.S. dollar bonds, which were once a life-saver for mainland property companies as the CCP steadily tightened control over real estate financing from 2017, have now become toxic for some property firms. According to data from chinabond.com, real estate companies defaulted on $300 million of dollar bonds in 2018 and did not default on their dollar bonds in 2019, but saw a default scale of $1.755 billion and $2.23 billion in 2020 and 2021 respectively.
Per incomplete statistics compiled by mainland media, three Chinese property companies have issued over $10 billion worth of U.S. dollar bonds, including Evergrande ($17.575), Kaisa ($15.385 billion), and Country Garden ($11.794 billion), while another six companies have issued over $5 billion but less than $10 billion worth of U.S. dollar bonds. Dollar bond repayments peak in 2021 and 2022, with 19 dollar bonds (totaling $4.1 billion) issued by 18 listed real estate companies set to mature by the end of this year.
Private Chinese real estate companies tend to issue bonds with high interest rates as they struggle to secure financing. According to statistics compiled by mainland media, medium-sized property companies like Beijing HongKun WeiYe, Skyfame, Jingrui Holdings, and Jiayuan International Group issued dollar bonds with an average interest rate above 12 percent, with some notes approaching 15 percent. Companies plagued by repayment problems in recent months like Modern Land, Fantasia, and Sichuan Languang issued notes with interest rates of over 10 percent.
As more and more property companies default or fall behind on their dollar bond payments, foreign investors will become more wary of buying such debt going forward, and international confidence in China’s economy will be impacted.
3. The CCP is presently caught between a rock and a hard place with regard to stimulus, the economy, and property sector troubles. The economy is clearly taking a hit from the Evergrande crisis, with brewing financial contagion, sluggish housing transactions during the “Golden Week” peak period, shrinking housing supply, and falling prices. While the deflation of the property bubble fits with Beijing’s broader deleveraging and derisking agenda, it still needs to maintain the bubble to a degree to avoid a “hard landing” for the property sector, the outbreak of systemic financial risks, and crashing the Chinese economy.
The CCP will have to thread the needle going forward to avert escalating the current crisis. The authorities and regulators will likely take administrative measures to stop property companies from slashing prices too steeply and making it harder to move second-hand units. The central bank will also likely release stimulus in a controlled manner to avoid worsening the economy (we noted in our China 2021 Outlook that while the PBoC “will look to cut back on the scale of stimulus,” the “downsides of tighter monetary policy will make it difficult for the central bank to stick to its original plan”). Regardless of how carefully the CCP moves to defuse the situation, the debt problems of mainland property companies on the whole are on track to become more severe, and spreading financial contagion will affect China’s financial stability.
SinoInsight 2
President Joe Biden and PRC leader Xi Jinping will hold a virtual summit in the evening of Nov. 15, according to a White House statement. The two leaders will “discuss ways to responsibly manage the competition between the United States and the PRC, as well as ways to work together where our interests align,” the statement read. Biden will also “make clear U.S. intentions and priorities and be clear and candid about our concerns with the PRC.”
According to a Nov. 12 report by The Wall Street Journal, “climate, trade and nuclear nonproliferation—all areas the U.S. wants to work on with Beijing—as well as Taiwan and cybersecurity are among the issues that could be discussed.”
The weeks leading up to the news of the virtual summit saw the following developments pertaining to Sino-U.S. relations:
Oct. 29
Citing people familiar with the matter, Politico reported that National Security Advisor Jake Sullivan is pushing to raise tariffs on “some key Chinese industries like steel and solar panels that receive the most support from Beijing—while scaling back penalties on thousands of other products.” New tariffs would require a probe or a formal accusation that the PRC failed to comply with the Sino-U.S. trade deal negotiated by the Trump administration. However, “following the process in the deal would likely take years before resulting in new tariffs or other trade sanctions,” while investigations into foreign government subsidies also take time.
Meanwhile, U.S. Trade Representative Katherine Tai “wants to give China time to engage in trade talks first,” arguing that the topic of tariffs would “poison the new talks with Beijing and that the Biden administration should not abandon America’s previous trade commitments, even those made under Trump.”
Politico also reported that “the White House says that Biden’s team is now on the same page after the lengthy review of Trump’s trade policies.” Also, the Biden-Harris administration “will likely seek a narrower, steeper tariff structure on China where higher tariffs are imposed on steel, solar panels, batteries, semiconductors and other technology that “receive the most subsidies and other support from the Chinese government,” while providing tariff relief “to companies not served by Beijing’s most-favored sectors.” Politico notes that the White House has already “reopened the process for companies to apply for exemptions from tariffs on more than 500 products from China, and has indicated more opportunities for carve-outs are on the way.”
Nov. 1
U.S. Treasury Secretary Janet Yellen told Reuters, “Our trade representative has said that we would consider additional tariffs reductions. We want to see China meet their commitments they made under Phase 1, but stabilizing and perhaps eventually lowering some tariffs in a reciprocal way could be a desirable outcome.”
Nov. 3
The Pentagon estimated that the PRC could have 700 warheads by 2027 and possibly 1,000 by 2030 in its annual report on China’s military to Congress, sharply increasing its estimate from last year of 400 warheads by 2030. “Over the next decade, the PRC aims to modernize, diversify, and expand its nuclear forces,” the report said.
Nov. 7
In an interview with CNN, Jake Sullivan said, “I think one of the errors of previous approaches to policy towards China has been a view that through U.S. policy, we would bring about a fundamental transformation of the Chinese system. That is not the object of the Biden administration.”
Sullivan added, “The object of the Biden administration is to shape the international environment so that it is more favorable to the interest and values of the United States and its allies and partners to like-minded democracies. It is not to bring about some fundamental transformation of China itself.”
When asked about Taiwan, he said, “We continue to adhere to the One China policy, the Taiwan Relations Act, and we oppose any unilateral changes to the status quo.”
Nov. 8
Several news outlets reported that satellite imagery shows mock-ups of a U.S. aircraft carrier and other warships in a remote desert in Xinjiang. The models appear to be built on railway tracks to enable movement and are presumably intended for target practice.
Nov. 9
1. Qin Gang, PRC ambassador to the United States, attended the National Committee on U.S.-China Relations gala dinner and read a letter by Xi Jinping. According to a read-out on the PRC U.S. Embassy website, Xi said that “China-U.S. relations are at a critical historical juncture.” He added that “following the principles of mutual respect, peaceful coexistence and win-win cooperation, China stands ready to work with the United States to enhance exchanges and cooperation across the board, jointly address regional and international issues as well as global challenges and, in the meantime, properly manage differences, so as to bring China-U.S. relations back to the right track of sound and steady development.”
In his speech, Qin said, “We look forward to working with the American government and visionary people, in the spirit of the phone call between our Presidents, to strengthen dialogue, manage differences, focus on cooperation, and make unremitting efforts to take China-U.S. relations back to the right track.”
2. A delegation of U.S. lawmakers flew on a U.S. Navy C-40A plane from Manila and to Taipei Songshan Airport for a surprise visit to Taiwan, according to news reports. The lawmakers include Republican senators John Cornyn, Tommy Tuberville, Mike Crapo and Mike Lee, as well as Republican Representative Jake Ellzey.
3. President Biden extended a Trump-era ban on U.S. investments in PRC companies that are owned or controlled by the PLA.
Nov. 10
1. In an interview with Andrew Ross Sorkin of The New York Times DealBook Summit, Secretary of State Antony Blinken revealed that President Biden and Xi Jinping have spent “five hours on the phone over the course of several conversations.”
When asked about Taiwan, Blinken said that “we stand strongly against anyone taking unilateral action to disrupt the status quo by force” and added that “we continue to adhere to the ‘one China’ policy, but that is based on the Taiwan Relations Act.” Blinken also said that the administration is focused on making sure that Taiwan “has the means to defend itself.”
2. The U.S. and the PRC issued a joint statement “on enhancing climate action in the 2020s” at the United Nations climate summit.
3. When asked if climate or China was the bigger threat during a press briefing, Pentagon spokesman John Kirby said, “You’ve heard the secretary talk about the climate as a real and existential national security threat, and it is, not just to the United States, but to countries all over the world. And we considered China as the number one pacing challenge for the department. Both are equally-important.”
Nov. 11
1. Jake Sullivan said at the 2021 Lowy Lecture that the U.S. is “not seeking a new Cold War” with the PRC and “not looking for conflict.” Rather, the U.S. is looking to “work together with China” where it is “in the common interests of our countries and in the interests of the world,” including “on climate change, or on nuclear proliferation, or macroeconomic stability, or on other issues.”
2. President Biden signed the Secure Equipment Act, a piece of legislation that prevents companies such as Huawei and ZTE that are deemed as security threats from receiving new equipment licenses from U.S. regulators.
Previously in August, Reuters reported that the U.S. approved license applications worth hundreds of millions to Huawei to buy chips for its auto component business
3. According to CNBC, Xi Jinping could invite Joe Biden to attend the Beijing Winter Olympics during their virtual summit, citing people familiar with the matter.
4. The Washington Free Beacon reported that U.S. climate envoy John Kerry is lobbying lawmakers to oppose legislation banning the import of Chinese goods made by Uyghur slave labor in a move “aimed at buying goodwill with Beijing as the United States seeks a new climate deal.”
OUR TAKE
1. The Biden-Harris administration has used both carrots and sticks to secure Beijing’s commitment for a Biden-Xi virtual summit. On the one hand, the administration is bringing Sino-U.S. relations “back on the right track” (from Beijing’s perspective) by prioritizing cooperation and engagement over confrontation. We noted earlier how the administration has been weakening its stance towards the PRC (see here, here, and here). Xi Jinping would greatly welcome news that the Biden-Harris administration plans to drop or reduce tariffs on thousands of Chinese products, statements by senior administration officials ruling out U.S. efforts at regime change or a “new cold war” with China, and lobbying efforts by senior administration officials to curb U.S. action to address human rights abuses in Xinjiang. Such gestures, which coincided with the Sixth Plenum period, justify Xi’s current U.S. strategy (which was far less sound during the Trump years) and provide him with leverage against those opposing his third term bid.
On the other hand, the Biden-Harris administration has applied modest pressure by “stepping” on the CCP’s “red line” by playing the Taiwan card. We previously explained that Xi’s hands are somewhat tied in how he can respond to moves by the U.S. and other countries to support Taiwan given his domestic political situation. Meanwhile, efforts to expose PLA military activities and build-up are also likely intended to put Beijing on notice, although the effectiveness of such efforts are questionable because the CCP is unlikely to rein in its military plans regardless of what the U.S. does.
2. The CCP previously made it clear to the Biden-Harris administration that Sino-U.S. climate cooperation is predicated on a reversion to how things were during the “pre-Trump ‘engagement’ era, or to other more favorable arrangements for the CCP regime.” Put another way, Xi Jinping only agreed to the virtual summit with Biden and the recent Sino-U.S. joint statement on “enhancing climate action” after the PRC is assured of tangible benefits and concessions from Washington while Xi gains an opportunity to boost his “quan wei.” In exchange, the CCP likely signaled that it is willing to work with the U.S. on climate and other issues.
The CCP, however, cannot be trusted to live up to its climate commitments. Everything in the CCP regime revolves around politics, and Beijing will have no qualms in abandoning its climate pledges if it needs to score political victories or ensure political survival at home (i.e. burning more coal to avoid legitimacy-sapping power crises). Furthermore, the CCP will be looking to avoid getting invested in a project that could potentially undermine its push for global hegemony; PRC commentators have raised concerns about whether the West is perhaps using the “climate crisis” to reorient the global economy and capital operations in a manner that would disadvantage China.
