China Evergrande set to collapse potentially causing US-style GFC

Date: 1970-01-01 00:00:00

As attempts to pull itself out of its $400b financial hole has fallen through, there are warnings China’s property bubble will burst causing huge amounts of pain.

Its been teetering on the brink of collapse for weeks but China Evergrande, the country’s second biggest property developer, could be facing up to doomsday as it admitted it may not be able to meet its financial obligations.

With more than $A400 billion in debts, the property developer is dealing with several looming deadlines to pay up, as attempts to save it fall through.

An offshore bond payment that China Evergrande initially missed on September 23, but got a 30-day grace period on, is set to expire on Saturday with $110 million owing.

There’s another $60 million interest payment too, which wasn’t paid when due on September 29, and the grace period is also set to run out.

Discussions for a $A7 billion deal for Hong Kong-listed Chinese developer Hopson to take a majority stake has also fallen through.

Credit rating service Moody’s has basically given the property developer a junk rating, warning that there are “weak recovery prospects for Evergrande’s creditors if there is a default”.

Experts believe that China Evergrande’s collapse is all but inevitable.

The Chinese government has been reluctant to bail out the ailing property developer and the People’s Bank of China governor Yi Gang has claimed the risk to the economy could be contained.

Yet there are 70,000 investors in Evergrande, which has also paused construction on homes for more than 1 million home buyers.

Alarming drop in house prices

Clifford Bennett, chief economist at ACY Securities, warned that China has moved further along the US style global financial crisis (GFC) pathway.

China uses the property market to prop up the economy with nearly a third of gross domestic product coming from the industry. Recently, two other Chinese developers, Sinic and Fantasia, have also defaulted on payments.

In further bad news, home prices in China dropped in September for the first time in six years, while real estate investment has also tanked for the first time since last year.

Evergrande said real estate sales plunged about 97 per cent during peak home-buying season, with the developer selling just $US571 million since September, a tiny fraction of the $US22 billion it recorded in the same period last year, reported Bloomberg.

If Evergrande’s properties flood the market, due to its collapse, it would further drive prices down across the market causing more problems.

While the Evergrande situation was already a crisis, Mr Bennett predicted things will get much worse if property prices were to experience even greater drops.

“There are the very first signs of that actually happening with prices in the 70 largest cities just reported to have fallen 0.8 per cent. Not a big deal, except they used to rise steadily and impressively. Something is happening that is more profound than a short term situation of one or two large developers being in trouble,” he explained.

“They are the canary in the mine. They are faltering because the easy win path of the incredible China boom of past decades, is beginning to settle back into a more typical pattern of a mature capitalist economy.”

Situation continues to unravel

Mr Bennett added that China, the world’s second largest economy, could well be having a US style property speculation bubble burst experience.

“In the original GFC, high lending to all kinds of construction and property investment (in the US) lead to a global financial crisis. China was actually the backstay then to the global economy,” he noted.

He added that China’s continued strong growth during the GFC and the impact that had on all of Asia and Australia, certainly supported the region during the severe USA and European downturn.

So China’s potential downturn could spell bad news for Australia considering it makes billions from the relationship, despite the trade relationships being frosty at times.

To add to that the US economy is in the grip of a serious slow down with US mortgage applications suffered another severe contraction, he added.

“We should pay attention to any further decline in Chinese property prices, and be particularly concerned should the boom in US prices begin at any stage to slow or reverse,” he said. “Mortgage applications, are as I have said for some time, a major warning sign.”

Impact on Australia

There are signs Evergrande’s potential downfall has left Australian experts rattled, with minutes from the latest Reserve Bank of Australia monetary policy meeting revealing a telling clue that financial insiders are watching China very closely.

During the October 5 meeting, Evergrande was specifically mentioned seven times, indicating the situation was a key consideration.

The potential downfall of Evergrande, along with a significant slowdown of the Chinese real estate sector more generally, has been a serious cause of concern for Australia especially, given our reliance on China when it comes to iron ore.

Originally published as China Evergrande set to collapse potentially causing US-style GFC

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