China Real Estate: Keep stability at any cost but of the risk is downside

There is no doubt that real estate is still a vital sector for China to keep its growth rate target. Supported by rapid credit growth on the back of a very lax monetary policy, housing prices, especially those in Tier-1 cities, have ballooned during the last two years. The next question is whether such trend can continue unabated.

We expect the supply to continue to increase fast as economic growth remains the key priority and the real estate sector is the largest part of the Chinese economy. However, it will not be obvious for demand for real estate to increase at the same speed for a number of reasons.

·        Even if capital controls have been tightened, interest rates are slowly moving up and we expect that to continue as the Fed normalized monetary policy. This should reduce the attractiveness of real estate versus financial investments.

·        RMB continues to depreciate, which is bound to renew pressure on capital outflows.

·        Domestic buyers – which are the overwhelming majority – are more leveraged. This is true for corporates but increasingly also for households as housing affordability deteriorates.

All in all, the combination of rapidly growing supply and the gloomier demand outlook make investment in real estate in China a relatively risky option. However, we believe the risk is rather medium term as the government cannot really afford a big correction in prices while clearly pursuing economic growth targets.