Some global real estate investors and hedge funds steer clear of China, believing the nation is about to collapse as its property bubble bursts. Russell Platt, CEO of London-based Forum Partners, begs to differ.
Platt, who has more than 30 years’ experience in property finance and investment in Europe and North America, including a stint as head of the global real estate division of Morgan Stanley Asset Management, believes now is a good time for smart investors to look at Chinese real estate again.
“We do not think there is a property bubble in China,” says Platt, who co-founded Forum with two other partners in 2002. The firm, which manages $5 billion in real estate assets, has more than $560 million invested in China, where it began allocating funds in 2004. The country’s residential property market slowed in 2014, Platt notes, mostly because of government efforts that included limiting purchases of second homes and forcing buyers to make down payments of at least 60 percent. Those rules were eased early this year, and markets are edging up again.
“With removal of home purchase restrictions in most of the cities — except the four tier-1 cities of Beijing, Shanghai, Guangzhou and Shenzhen — and monetary loosening by the central bank beginning late last year, we expect the residential market to turn around in the next 12 to 18 months,” he says. “In fact, sales velocity has already started to pick up as of May 2015.”
Some 53 percent of China’s roughly 1.3 billion people are urban dwellers, according to World Bank Group data from 2013. The majority of those 650 million residents live in 660 mainland cities, ten of which have populations greater than 4 million. Most of China’s wealth is concentrated in tier-1 centers — the most developed urban areas — such as Beijing (home to 21 million people) and Shanghai (24 million).
Tier-2 cities include logistics hubs like Tianjin in the northeast (15 million) and Chongqing in the southwest (28 million). Tier-3 cities are usually provincial capitals; tier-4 and tier-5 centers are still at the early stages of development (1 million to 5 million).
Forum’s latest Chinese deal came earlier this year; the firm provided $55 million in financing to a developer in tier-3 Fuzhou, capital of southeastern Fujian province, to help him buy out the landowner of a residential project that was a year from completion. The funds took the form of a high-yield bond with a three-year maturity and a 15 percent fixed-interest rate.
Forum’s typical approach in China, where many developers are starved for capital with banks reluctant to lend, is to offer financing. Developers often approach leasing companies or trusts that charge annual rates as high as 18 percent. “The Fuzhou entrepreneur obviously couldn’t get a 15 percent rate from banks or other investors,” Platt says. “That is, he chose us over alternative forms of financing.”
Platt contends there never was a Chinese property bubble. “A bubble in a simple sense is when prices are out of sync with reality and affordability,” he says. When it comes to affordability, at least on the commercial side, vacancy rates in major markets such as Beijing and Shanghai are quite low, he adds. Forum is concerned about residential affordability in tier-1 cities but not in others, where there is excess demand. In tier-2 and tier-3 markets, developers have less than 20 months’ worth of new housing stock, Platt says, a happy medium that keeps prices from rapidly rising or falling.
In China real estate has long been used to store wealth, he explains. As savers gain access to a variety of investments, they’re coming to regard property as just one part of a diversified portfolio. That represents progress, Platt says: “But it means one needs to be focused on markets where there is genuine demand and not just an outlet for savers who don’t have other outlets for their capital.”
Although Chinese property prices climbed more than tenfold from 2000 to 2010, they’ve barely risen since, the result of a central-government-led push to prevent overheating. Average annual price growth for China’s 100 largest cities was only 2.3 percent over the past four years, according to Robert Ciemniak, founder, CEO and chief analyst at Hong Kong–based research firm Real Estate Foresight. “The issue is oversupply concern, not house prices, and relatively high land prices that put pressure on margins for developers,” he says, adding that the spread between land and building prices is the key driver of return for developers.
In March through May, Chinese tier-1 residential property outstripped its counterparts in tier-2 and tier-3 cities, Real Estate Foresight found through an analysis derived from the online database of SouFun Holdings, a Beijing-headquartered property listing agency. Average tier-1 prices rose 1.5 percent in May, versus declines of 0.1 percent and 0.2 percent, respectively, for those in tier 2 and tier 3. Although all tiers posted negative year-over-year price growth that month, tier-4 Baoding and tier-3 Xiamen saw the fastest rises among the top 100 cities, gaining 6.44 percent and 6.02 percent, respectively. From the end of December through May, Shenzhen showed the strongest growth, with 5.27 percent, followed by Shanghai with 3.85 percent.
Global investors should be highly selective and target two extremes, Ciemniak says: places where there is genuine rigid demand or real urbanization and where land prices are reasonably low, and urban centers with high concentrations of wealth and demand for upgrading to higher-end housing.
Just as important is teaming up with developers who have track records of repaying loans and projects with market acceptance, Platt says. “At the end of the day, you lend to a sponsor, not to a building. The building may be collateral, but it is the sponsor who repays you.”
