A note on Chinese real estate concerns – Aussie seems the play on the FX side

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26 Aug 2014


“If you try to change it, you will ruin it. Try to hold it, and you will lose it.”

― Lao Tzu, Tao Te Ching

Commentary & Analysis

A note on Chinese real estate concerns – Aussie seems the play on the FX side

As you probably know, real estate prices in China are falling.  You only have to Google the following: “Chinese Ghost Cities,” to get a sense of how pronounced the over building seems in China.

Empty roads in Zhengzhou, China

Empty roads in Zhengzhou, China

But, despite rising concerns from many analysts, the question is this: Can China really afford a real estate crisis? 

The short answer is no.  Not only because real estate represents such a huge proportion of the country’s GDP, but according to the Financial Times:

More than 90 per cent of urban households already own at least one home, and for those households that own apartments, nearly 76 per cent of their assets are in real estate, according to Gan Li, director of the Survey and Research Centre for China Household Finance in China.”

The total number of urban households is not defined in the article.  But I think we can assume two things: 1) there are a lot of them, and 2) those households who have the money to invest in real estate are also the core consumer class in China.  And according to reports, real estate has been a prime source of savings for young and old in China; thus it cuts across all generations.  Thus, the potential for social unrest is there.  But beyond that, I think we can conclude a real estate crisis will hit Chinese consumption hard, just as it did to US consumption.  This is not a healthy prospect for the country given consumption to GDP is already at historically world-beating lows. 

The Party seems serious about reform, which may be one reason why all those corrupt officials keep “jumping” out of windows.  My bet is China runs out of corrupt officials before it runs out of windows (maybe this is an idea Washington D.C. can get behind).  A key to reform is a transition away from massive investment stimulus, aka malinvestment into said Ghost Cities, to a more balanced consumer-based economy.  The old economic model which served them well is dead.  The leadership knows that.  But knowing that and implementing change without major blow-back and social turmoil are two different things.    

It seems the demand for liquidity in China is rising.  This liquidity demand coincides with the mandate for banking reform, which by its nature reduces liquidity.  And external sources of liquidity seem likely to fade, as:

1)      The US Fed drains dollar liquidity out of the market

2)      European banking continues to delever  

So, can we expect another massive wave of stimulus from the Chinese government soon?  Betting against this in the past has proved fruitless despite warning about the malinvestment risks.  But even if we see more stimulus efforts to help real estate buyers in China, it is unlikely to have the same impact externally.   

Because I don’t expect more building (anywhere relative to what we have seen) it’s unlikely another wave of raw materials demand will flow from China even if the government helps engineer a soft-landing in real estate. I say that because the banking reform mandate suggests any stimulus will be more closely monitored and targeted, as opposed to the blanket variety stimulus which in past seeped everywhere, was multiplied by Shadow Banking and supported a good portion of the massive overbuild and demand for commodities as its extension.

We can’t discount completely the possibility this time if different and real crisis will erupt in the real estate market (though we should probably place low probability on this event considering how China seems to cope so effectively with problems viewed as “a budding crisis” from the perspective of Western-based analysts applying conventional economic analysis).  So given those as rationales, my favorite way to play this from a currency perspective is through the Australian dollar. 

I’ve written here before (and maybe it is a bit of hyperbole on my part) saying Australia has become a satellite country of China, from an economic perspective.  Maybe that isn’t true, but there still seems plenty of fallout left for the Australian economy whose massive build in mining capacity coincided nicely with the boom in Chinese real estate

AUD/USD Weekly:

Jack Crooks

President, Black Swan Capital



Twitter: @bswancap