First and foremost, it needs to be made clear that there is no such thing as a single Chinese real estate market. There are more than 100 cities in China with a population of over 5m, against perhaps only six in Europe and two in North America. In a country with a population that exceeds 1.3bn and a real estate market encompassing both Shaolin temples in Henan and futuristic sky-scrapers in Pudong and Shanghai, the presumption of a homogenous market is a mistake. Huge regional variations exist between the more affluent eastern coastal cities such as Beijing and Shanghai and the less well-off centre and west of the country.
A bubble needs a mismatch between supply and demand and a problem with affordability. In China the demand side of the equation is straightforward and is driven by three key areas: urbanisation, population growth, and the upgrade of existing obsolescent stock. The main driver is urbanisation – China’s urbanisation ratio of 47% is increasing at 1% to 2% per annum, creating a requirement for c.9m new homes a year. The second factor is population growth of approximately 0.5% per annum. The third demand driver is the need to upgrade existing stock more frequently than in the West because of the relatively poorer quality of construction and asset maintenance. The net impact is that residential property in China tends to look tired after a few years and needs upgrading. This creates additional demand through a shorter life cycle.
In terms of supply, the principal beneficiaries of the sale of land are the local governments for whom it is a vital source of revenue ranging from 10% to 35% (or more) of total income. A key moderator of future pricing will be the supply of affordable housing with an estimated 36m affordable homes coming on stream over the next five years. The c.US$200bn (£123bn) programme recently announced by Deputy Housing Minister Qi Ji means that the supply of affordable housing will absorb the structural population shift brought about by urbanisation, dampening prices at all but the luxury end of the market.
Our business has just over 3,500 residential units for sale in China and the local government now requires that we and other developers apply for consent to sell completed residential units at a pre-determined price. Developers who sell at higher prices than the approved level will, in extreme cases, be prohibited from doing further business. The precise implications from breaching the ‘cap’ are unclear and remain subject to the vagaries of local government implementation, but the intent of the plan is obvious enough. The government wishes to actively regulate the market such that prices do not grow faster than the overall economy – a ‘Goldilocks’ scenario of steady, sustainable price growth.
As for affordability, I do not believe there is a widespread problem. A recent study by Credit Suisse concluded that outside of the Tier 1 cities of Beijing and Shanghai, price to income ratios remain generally in the reasonable range of 3x-5x. About 50% of prospective buyers in our schemes are cash purchasers and for those that require mortgages a minimum deposit of 30% (60% in some cities) is required. Mortgage loans in China as a percentage of total loans stand at less than 20%, versus 57% in the United States. Although prices are generally in line with incomes and debt levels are manageable, I would be the first to concede that the markets in Beijing and Shanghai are increasingly disconnected from reality after price rises of up to 40% during the last 2 years. However, even with this run-up, the upper echelon of the Chinese residential market is priced at c.US$1,400 per sqft or 20% of comparable rates in London and Hong Kong.
The view that, while there are pockets of froth, there is no widespread residential bubble is endorsed by the IMF.
“We have found that house prices are not significantly over-valued in China as a whole. However the mass market segment in a few large cities – such as Shanghai and Shenzhen, and the luxury segment in Beijing and Nanjing – do appear to be increasingly disconnected from fundamentals.”
The IMF goes on to say: “Over the past decade where misalignments have occurred they have been corrected relatively quickly”.
The Chinese housing markets – with certain exceptions – remain attractive: high growth, low levels of mortgage debt, and the ultimate case study in proactive regulation.