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The ongoing slump in China's property sector is adding to credit and economic headwinds. While the country's property developers have nearly reached bottom, they will likely be stuck on this floor for some time.
What We're Watching
Two years after China Evergrande Group's default in 2021 sparked a crisis, China's property sector remains mired in a prolonged downturn that has added pressure on distressed developers that have yet to default.
Signs of stabilization that materialized in the first quarter of this year dissipated when Country Garden Holdings, a large private developer, missed interest payments on two offshore bonds. Meanwhile, the Shenzhen-based megadeveloper Evergrande paused its restructuring plan. This comes in tandem with decelerating home prices turning negative in 19 of the past 25 months.
Despite substantial efforts by the Chinese government to provide stimulus measures to boost property sales, stresses in the sector persist.
What We Think And Why
S&P Global Ratings believes China's property developers have nearly reached bottom, but will likely be stuck on this floor for some time. Low construction starts, inventory overhang in lower-tier cities, and ever-tightening escrow restrictions will likely keep sales depressed. These compounding complications could create both credit and economic headwinds for China overall.
Policymakers are using measures to bring tier-one cities back to health, and sentiment, sales, and prices in these markets have started to normalize. These upper-tier markets are the most important part of the property market, representing more than 40% of GDP and almost one-third of the national population.
But the government's focus on restoring upper-tier markets first necessarily pushes back the rebound of the lower-tier cities. About 80% of home sales in China are "pre-sales"—in which buyers place a down payment and then pay in full within a few weeks or months of purchase but receive the built home as late as a year after signing—and confidence that developers will be able to deliver remains low, which is diminishing demand. At the same time, Chinese buyers aren't looking to acquire new properties given concerns of price-to-value, particularly in lower-tier cities. While developers will further discount residential prices to boost sales, we expect sales in lower-tier cities will drop 9% in 2024.
We've revised downward our forecast for 2023 home sales to a 10%-15% decline (after last year's 26% drop) and a further 5% down in 2024. And since sales are the main source of revenue for developers, we believe Chinese property developers' earnings will continue to face headwinds through 2024, with declining margins and less ability to access other sources of liquidity. Additionally, a domino effect on real estate-related industries could reverberate across the market—and likely reinforce a negative feedback loop where buyers are reluctant to commit.
What Could Go Wrong
When home prices fall, personal wealth declines and consumption takes a hit. Property and related industries account for 20%-30% of China's GDP, and it will take time for another growth engine to replace the significant property sector. The renewed slowdown in the property sector has already weighed on China’s overall economic growth and squeezed local governments' spending.
China's property sector is moving into a more fundamentals-driven market as the government works to squeeze out investment demand and move away from debt-driven growth. But against this backdrop, we estimate that China's local government debt-raising vehicles collectively owe about Chinese renminbi 60 trillion ($8.3 trillion) in debt. The property-related pressures aren't helping their greater impending liquidity stress.
Divergences could widen in credit quality between developers with higher exposure to upper- or lower-tier cities, as well as state-owned and private property developers. This could slow, or derail, a recovery in the sector overall.
Meanwhile, Chinese banks are likely to suffer nonpayment from property development loans. Sector-wide nonperforming loan ratios for the segment could rise to about 4.7% over 2023-2024, before recovering to 4% in 2025. Broadly, banks hold the majority of Chinese developers' debt. Property loan exposures accounted for about 23% of the Chinese banking system's total loans as of June 30, with mortgage loans representing 17% of total loans and property development loans at about 6%.
Risks are centralized at home, with onshore creditors holding more of developers' debt than lenders outside of China. Nevertheless, the property sector's heavy leverage, individual homeowner's high involvement in the market alongside developers and investors, and the potential for spillover to banks underscore the risk that property markets can quickly move from downturn to crisis.
Writers: Molly Mintz and Joe Maguire
This report does not constitute a rating action.
| Primary Credit Analysts: | Charles Chang, Hong Kong (852) 2533-3543; charles.chang@spglobal.com |
| Eunice Tan, Singapore +65-6530-6418; eunice.tan@spglobal.com | |
| Lawrence Lu, CFA, Hong Kong + 85225333517; lawrence.lu@spglobal.com | |
| Secondary Contact: | Alexandra Dimitrijevic, London + 44 20 7176 3128; alexandra.dimitrijevic@spglobal.com |
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