Rumblings in China’s Real Estate Market

Kaisa Group Holdings, a Chinese property development firm, defaulted on $23 million in interest payments on offshore bonds January 12. At least fifteen Chinese financial companies have requested that the firm’s assets be frozen. Kaisa experienced problems in December 2014 with obtaining approvals from the Shenzhen government to continue development and property sales. More than twenty foreign fund companies hold Kaisa debt and are concerned that Kaisa’s previous strong performance will not return.

A lack of transparency as to why the Shenzhen government blocked Kaisa’s property sales and permit applications has worried home buyers and investors. The departure of the company’s chairman and its chief financial officer in December 2014, worsened matters. What is more, Kaisa’s case has reached high-profile international fund companies, such as Blackrock and Fidelity Investments, which has brought foreign attention to the default. Kaisa’s troubles represent the rumblings that China’s property developers continue to feel in a shaky real estate market.

In an industry of almost 90,000 property developers and falling real estate prices, some developers have felt enough strain to go bankrupt. In the first developer bankruptcy of this year, two related real estate firms in Ganzhou, Jiangxi province, Ganzhou Long Properties Limited and Ganzhou Bank and Credit Limited went bankrupt, owing more than 2 billion RMB ($320 million) in debt. In this widely publicized case, the boss was arrested on the suspicion of illegal fundraising, as the firm sold the homes to customers and also used the homes as collateral against loans.

Small and midsize developers have particularly suffered in this capital-intensive industry, which has long development cycles. Smaller developers have higher financing costs and carry higher risk of default. These developers have reportedly suffered in Shenzhen, Qingdao, Huizhou, Fuqing, and elsewhere around China. In some places, the property decline has uncovered fundraising fraud among developers, as additional loans can no longer be obtained to repay investors. For example, a man named Huang Zhangbao was arrested for illegally raising up to 1.2 billion RMB for a variety of purposes, including real estate development in Beijing.

In some cases, as developers face diminished funding streams or even bankruptcy, buyers who have already purchased unfinished homes have had to take legal recourse to protect their interests. Buyers have been forced to either wait for developers to resume construction or wait for sales of the developers’ assets to be auctioned in court to be reimbursed. When these channels fail, buyers have resorted to launching lawsuits against developers. Anecdotes of these problems abound on the internet, often describing how buyers appealed to local governments for legal protection against defaults, unfinished work, or bankruptcy.

Monetary easing in November 2014, combined with relaxed mortgage lending rules and lower home purchase restrictions, led to higher property sales volumes in December, especially in first-tier cities. At this point, though, it remains unclear when the real estate climate will improve. As a result, we may expect to see additional defaults in early 2015.