(Bloomberg) – Almost exactly a year after China’s housing market debt crunch sparked the first in a wave of developer defaults, the industry is struggling to survive.
Home sales continue to plunge and high borrowing costs mean offshore refinancing is not an option for many developers. Global agencies are pulling their ratings on housing bonds, while a series of auditor resignations add to financial transparency doubts just weeks before earnings season. A sudden 81% drop in the Hong Kong-listed shares of a real estate company raises concerns about the risk of margin calls.
Yu Liang, chairman of China Vanke Co. – one of the country’s biggest developers – urged staff to prepare for a battle that could make or break the company, according to the South China Morning Post, which quoted a internal document from last month. . “We are on our last legs, which means there are no other options,” he said.
A Bloomberg index of China’s junk dollar debt fell daily this week through Thursday, pushing yields above 20%. A gauge of Chinese property stocks is down 3.4% this week, taking its losses over the past 12 months to 28%, even after a rally on Friday.
As the cash crunch for developers worsens, the housing slowdown that has become one of the biggest drags on China’s economy is deepening. Trying to deflate a speculative market is a risky strategy that, if left unchecked, could threaten Beijing’s commitment to prioritizing economic stability this year. Regulators have quietly tweaked some rules to stage a soft landing for the real estate sector, such as encouraging mergers and acquisitions, but so far officials have refrained from any substantial easing of restrictions.
“While the government has become more supportive, the measures have remained marginal and have not resolved the liquidity crisis,” said Paul Lukaszewski, head of corporate debt for Asia-Pacific at abrdn Plc in Singapore, which has wallets exposed to developers. “Market turmoil and continued uncertainty have pushed traditional investors on the sidelines.”
China Fortune Land Development Co. failed to repay a $530 million bond due on Feb. 28, 2021, becoming the country’s first property company to default since Beijing set new funding limits for the sector in 2020. Since then, at least 11 developers have defaulted, according to a Feb. 3 report from Standard Chartered Plc.
Others may follow. Real estate companies need to find nearly $100 billion to pay off debt this year, even as their revenue streams dwindle. Sales at China’s 100 largest developers fell about 40% in January from a year earlier, compared with a 35% drop in December, according to preliminary data from China Real Estate Information Corp.
Developers are selling more onshore bonds to fund building projects, but not enough to cover maturing debt. Chinese promoters’ onshore issues fell 53% in January to 23 billion yuan ($3.6 billion), while dollar note sales fell 90% from a year earlier to just $1.6 billion, according to China International Capital Corp. Net funding, which subtracts issuance maturities, was negative $7.3 billion, CICC analysts led by Eric Yu Zhang wrote in a Friday note.
Investors also need to worry about off-balance sheet debt. Fallen Angel Shimao Group Holdings Ltd. recently offered to delay repayment of about 6 billion yuan of high-yield fiduciary products due between this month and August, affected people said this week. Its bonds sank, fearing the company was prioritizing those debts over money owed to foreign creditors.
The resignations of the auditors cast further doubt on the financial health of real estate companies. The auditors of Hopson Development Holdings Ltd. and China Aoyuan Group Ltd. resigned in late January, citing insufficient information and disagreement over fees, respectively. Shimao’s onshore unit changed auditors for the first time in 27 years. Failure to release results by the Hong Kong exchange’s March 31 deadline could lead to lengthy trading halts.
“The change in accounting firm just before year-end results raises questions about the quality of a company’s governance,” S&P Global Ratings analysts wrote in a Feb. 16 report.
Investor mistrust of management is taking root. Rumors about the ability of Zhenro Properties Group Ltd. to redeem a perpetual bond sent the note plummeting from near face value below 23 cents within days, while its shares tumbled as holder Ou Zongrong was forced to liquidate. The stock failed to rally even though the company said such speculation was “false and fictitious”. Zhenro has yet to clarify his plans for the perpetual ticket.
The authorities are taking steps to ease funding restrictions for the sector, although these measures are largely targeted and gradual, rather than generalized. The government recently issued rules to normalize the use of pre-sale financing, banks have extended more loans to the sector and some lenders in several cities have reduced mortgage down payments, according to several local media reports last week.
A Bloomberg Intelligence index of Chinese property stocks rose 3% on Friday after the mortgage report, while high-yield dollar bonds halted their decline.
Even so, credit stress remains “acute” and funding channels are not showing much improvement, according to analysts at Goldman Sachs Group Inc.
This means defaults are likely to pile up for developers struggling to sell assets fast enough. State-owned companies have emerged as potential buyers, although the pace of deals has so far been slow.
Any distressed debt investor who buys defaulted bonds is likely to face a long wait before recovery. Among defaulters over the past year, only Fortune Land has released a preliminary debt restructuring framework. According to Standard Chartered, about $48.9 billion is outstanding pending debt resolution.
While Chinese authorities have asked state-owned bad debt managers to help restructure weak developers, it’s unclear what that support might mean for bondholders. In China’s real estate sector, court-ordered restructurings are rare, according to data compiled by Bloomberg. Since 2018, 27 companies have not honored their obligations, and only two have engaged in such a process.
“Price volatility in the sector is unlikely to subside,” Citigroup Inc. strategists, including Dirk Willer, wrote in a Friday note. “Even the recent rebound in new home lending hasn’t done much to ease the deterioration in sentiment.”
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