Orient Capital Research on Evergrande debt crisis, investor worries
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Embattled developer China Evergrande‘s situation is not a surprise, given the steps taken by Beijing to reign in excessive debt in the property sector, according to Orient Capital Research’s Andrew Collier.
Collier said that this is a “tempest in a teapot”, which is funny considering the world’s concern about Evergrande.
Collier pointed to Beijing’s “three red lines” policy introduced last year, which was aimed at preventing developers from loading up on debt as well as to deflate the property bubble.
Evergrande was cited as an example.
“The fact that they’re continuing … to force developers to try to deleverage is an indication that they think this is a good campaign,” Collier added.
He explained that the Chinese authorities have a “pretty clear” reason for taking such an action. They know that they will have an even greater crisis if they do not take this action, which could lead to the property market exploding and then falling apart.
Global investor attention has been focused on Evergrande, the Chinese debt-ridden developer. This crisis rattled markets for much of this week.
Hong Kong’s Hang Seng index fell nearly 3% this week, while major indexes on Wall Street also tumbled amid the risk-off sentiment — although they staged a relief rally later in the week.
Collier indicated that Beijing could “release the brakes” by asking state representatives such as regional bank to take over Evergrande’s recapitalization.
He believes authorities are likely to cause some discomfort to investors in order to show that they don’t like excesses in the real estate sector.
Why global markets are nervous
Collier said there were two reasons why global markets are worried about Evergrande’s troubles.
The first was that 2008’s global financial crisis was due to property. The U.S. housing boom more than 10 years ago was what triggered it. Lehman Brothers at the time was the fourth-largest global investment bank. They underwrote billions in securities that were backed by high-risk mortgages.
It was the first U.S. corporate bankruptcy. This bankruptcy spread to other banks and triggered the financial crisis.
However, China’s situation today is quite different to 2008’s. According to an analyst, “They have problematic direct loans for developers, but not a large amount of capital that they can use to buy bad securities.”
Furthermore, the Chinese authorities also have “ways of manipulating the banking system.”
That could come in the form of indirect cash injections from the People’s Bank of China to the banks, or through forcing state proxies to step in and aid Evergrande, which the analyst said is “probably what’s going to happen.”
The other area of concern for investors is the importance of China’s property market to its overall economy, as well as the fiscal health of local governments, Collier said.
A crisis in China’s property market will lead to problems for the Chinese economy. This could have an effect on global iron ore prices as well as the consumption of goods.
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