"China's Home De-stocking Initiative Dampens Developer Outlook"

China's initiative to reduce housing inventory is casting a shadow over developers' prospects, dampening their outlook. This strategy aims to address oversupply and stabilize the housing market, but it's causing concern among developers. The article examines the implications of this de-stocking push, shedding light on its effects on developer sentiment and market dynamics.

Boston Brand Media brings you the latest news - Analysts and developers suggest that China's endeavors to diminish extensive inventory by converting unsold residences into affordable housing might not significantly aid financially struggling developers. They express doubts due to the program's restricted scale and the prospect of relatively low prices. Last month, as a component of a support package for the crisis-stricken property sector, Beijing disclosed a plan for a 300 billion yuan ($41 billion) lending facility. This initiative could potentially generate 500 billion yuan worth of bank financing for local state-owned enterprises (SOEs) to acquire finished and unsold residences.

It is anticipated that Chinese banks will provide discounted loans to state-owned enterprises (SOEs) through the facility, supported by the central bank, aiming to assist them in purchasing homes from developers at what is deemed "reasonable prices," subsequently transforming them into affordable housing. Nonetheless, certain private developers express skepticism, as they foresee minimal, if any, of their projects being chosen, citing the facility's insufficient scope. Additionally, they anticipate the scheme's rollout to be confined to major cities where affordable housing is abundant, with SOEs likely to propose relatively low purchase prices.

As Beijing faces the cautious stance of developers, it encounters a challenge amid ongoing efforts to revive a sector that once contributed a significant portion to the GDP and continues to weigh heavily on the economy despite waves of support measures in the past two years. Xintangzhen, a town in Guangzhou, emerged as the first local government to take action following the support package. 

Boston Brand Media also found that they issued a notice on May 30 to procure "suitable housing stock" for resettlement housing. The local government intends to purchase these homes at cost price, according to a report from China Real Estate Business, a media outlet overseen by the housing authority. The report mentioned that a project jointly owned by state-owned Jinmao and major developer Vanke had submitted an application. 

While some developers find the opportunity to buy at cost prices, representing a 20-30% discount to market price, better than anticipated, others remain cautious. A senior executive at a private developer, currently in default, expressed interest in applying if similar offers were made by other cities like Xintangzhen. However, he anticipates that the offers may be insufficient to cover construction loans and could potentially be lower than expected.

A senior official from a Shanghai-based developer, preferring anonymity due to the sensitivity of the issue, raised concerns about the feasibility of repaying loans if the offers fail to cover development costs, a sentiment echoed by analysts at Citi and Bank of America. They assert that discounts of up to 50% are necessary to ensure modest returns for state-owned enterprises (SOEs), given the typical price differentials between affordable and private homes. 

Moreover, even if developers manage to turn a profit by selling completed apartments to SOEs, local governments might mandate that the proceeds be allocated to ongoing projects rather than debt repayment. This arrangement poses challenges for listed companies and their offshore debt obligations, as noted by an executive from another developer facing credit default. Gavekal Dragonomics estimates that purchases totaling 500 billion yuan could address 12% of housing inventories at average market prices, or 20% if acquired at a discount. 

S&P suggests that converting existing inventory into social housing could stimulate transactions in the lower-end market segment and subsequently reduce overall prices. Despite numerous requests for comment, China's housing ministry, central bank, top banking regulator, and local housing authority in Guangzhou remained unresponsive. Similarly, Jinmao and Vanke chose not to comment on the matter.

EXECUTION RISK

"Only a handful of distressed developers will benefit," remarked Esther Liu, a credit analyst at S&P Global Ratings, highlighting the critical issue faced by distressed developers in completing construction due to limited completed inventory. Meanwhile, uncertainty persists among developers regarding SOE demand and price offers. Some bankers caution that the affordable housing scheme may strain asset quality as SOEs struggle to generate sufficient profits for loan repayment. 

Banks, leveraging the 300 billion re-lending facility, can offer loans to SOEs at a 1.75% interest rate, resulting in an aggregate interest rate of around 2.5% for SOEs, comparable to average rental yields in China. However, this arrangement shifts risk to both SOEs and banks, as noted by an unnamed executive. Despite the government's support, high execution risk remains, with only a fraction of the allocated funds utilized as of March 2024. Zerlina Zeng, a senior credit analyst at CreditSights, underscores the significant credit and investment risks borne by banks and local SOEs. 

Nevertheless, the central government's support measures have stimulated interest in top-tier cities, with analysts and developers acknowledging the positive impact of recent stimulus initiatives, including reductions in down payments and removal of mortgage rate floors. Karl Choi, head of Greater China property research at Bank of America, emphasizes the importance of the central government's increased support, signaling a turning point for the sector.

($1 = 7.2455 Chinese yuan)

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Source: Reuters‍