Ever-Grander Fears
Buy now you've heard about this Evergrande situation where this Chinese real estate developer owes USD 305 billion as it starts to default on some of its bonds.Beijing insists that even if it should default, it won't become a contain to affect global markets. A proper cynic would say, "of course they would say that."
There are two things that really worry me in this situation. One is that Evergrande is not going to be bailed out in anyway by the government because the CCP government intends to make an example out of it. It might be unwise to ignore the significance of letting Evergrande fail or implode. We only have to think back to the Bear Stearns moment during the GFC. That led to a bunch of other moments of sheer financial anguish and terror right up to and beyond the Lehman Shock. The point is, Bear Stearns didn't fail alone. When the tide went out, a lot of firms were exposed without their metaphorical pants on. The noises coming out of Beijing seem to indicate they're not thinking about this as a market problem, they're thinking about this as political problem because to the CCP all problems are political problems.
So that leads me to think Evergrande and its pile of debt isn't out there on its own. There is a whole flotilla of these kinds of companies, each owing way too much money. The total size of this debt in the real estate sector in China is pegged to be between USD 50-60 Trillion. The China's GDP is USD 16.6 Trillion
In other words, this thing is huge enough to swallow up China's economy. The calming words of China's central bank is no panacea to the pile of risk. With all due respect, it's a big pile. Evergrande might end up being the only company that goes under in this bubble-bursting moment. Something tells me that would be way too optimistic. Chances are better than even the whole sector in China will be on the receiving end of the stick. If there's no contagion to the globe, that's one thing - but there's no assurance there won't be a contagion of sell orders in China. This could become a massive market crash "with Chinese characteristics".
The second thing that really has me worried is that the Renminbi is pegged to the USD. This is good for China because it will probably stop a currency crisis from blowing up during the debt crisis for which they have lit their fuse to blow up. It's certainly wonderful for them that their astronomical debt is denominated in USD and so, while it is pegged, cannot blow out against the USD. But it also means it commits the test of the world to be dragged in by the unfolding debt crisis. Instead of China's Renminbi collapsing in value, it will stay pegged to the USD - and through the pressure it puts on the USD, we will feel it everywhere on the globe. This isn't Greece with its GDP of USD 200 billion which cause so much heartburn during the last decade. This is China doing the dragging. It's going to weight everybody down.
Happy days, no? Some think this won't be the Minsky Moment for the globe. Sure, easy to say. Yet here's another thing on top of all the above. The US markets are ready for another 'Taper Tantrum'. The FRB is trying to taper back the stimulus and rate cuts it brought in to bolster the markets during the pandemic. Just as it happened in the wake of the GFC, the markets have sent signals to the effect it does not like the taper. Combine it with the fact that we're in October, the month of crashes - c.f. 1929, 1987, 1989, 2007, and with the last week of October looming (when these crashes tend to happen), you're made to ponder if you're staring at the crest of the giant wave that's about to break. Is this the moment the global property bubble comes unstuck? And what is that going to do to the economy?
The deferred Evergrande coupon payment date from 25 September comes up Monday next week. The tea leaves say they'll probably default. The FRB will meet on 2nd November. In between those 2 dates, there's a solid week for things to go pear-shaped. Hold on to your hats.
2 comments:
Hi mate. I have some knowledge on the subject. Here is my 2c worth.
When the CCP says that they won't bail out Evergrande, they actually mean, they will not bail out the Offshore Bond holders of the company. On the debt front, most developers get their funding from onshore as well as offshore. Onshore meaning the Domestic Chinese banks in the form of Loans and RMB denominated bonds and offshore meaning international investors that buy the USD Dollar denominated debt. Some domestic investors may invest in these loans or bonds issues. Offshore investors (ie Funds/Foreign Banks/Wealthy individuals) have purchased these offshore bonds that give coupons of anywhere between 8-14%pa. If you are a Chinese national with an offshore account, you can also purchase these offshore bonds. In fact the Chairman himself bought approx USD 1billion worth of these bonds a few years ago together with other offshore investors. He would have received approx USD 120mill per annum but this sum pails in comparison to the dividends of the shares that he was holding. The shares are worth almost nothing now and the bonds are trading around 20c in dollar, but since the IPO, he has received around USD 8 billion on just the dividend payments. Let just say he's not going to go hungry for awhile. Evergrande is just one out of the approx 100 developers in China but what set it apart from others was its aggressive nature and its ability to consistently grow exponentially year after year. They've been in the business for over 10years and even up to last year, they had contracted sales of over RMB 700 Bill (USD 100 Billion) in real property sales. That was over 20% growth from the previous year. As a comparison, what Meriton made last year in Aust is what Evergrande makes in 1month. One other thing to note is that unlike other property developers, the Chairman got into other businesses along the way such as EVs, the water business, a soccer team and financial products (ie taking deposits from the public and offering financial products to them). So the CCP says that they are not going to bail out the company...BUT they are not going to just let it completely fail as this will have disastrous effects on the economy, not to mention very angry property owners that have bought apartments that have been half built. Most likely it will be a "controlled" default, where domestic investors of the domestic debt will have preference in terms of being paid back, but also it means that those half built apartments will continue to get built somehow so that there won't be hordes of angry apartment buyers trying to commit suicide in front of the Evergrande Head Quarters in Guangzhou. Suppliers of these development will continue to get paid and the business of Property Development will continue. In fact the whole reason why the company got into trouble was that the liquidity tap slowly dried up for the company. In fact last year, their outstanding debt was even higher. Historically, the company has had one of the higher debt/equity ratios of any Chinese developer and that why its bonds gave so much higher coupons than others. The offshore analyst community that cover that market have always been clamouring for the company to be more prudent on the debt front and in the last few years, their debt load has actually been reduced as a percentage. So why did the liquidity tap dry out? Well the CCP saw the writing on the wall and wanted all property developers to be less leveraged and hence put out the message to some of the banks to call in some of the outstanding loans. All in all, I think there will be no contagion and there will be no global financial crisis II as a result. This is just one of a hundred developers in China. There are a couple of other dodgy developers that will also likely default on their debt but none are anywhere as big as Evergrande. The property market is so massive in China that even a controlled default of Evergrande will have little effect on other developers.
I guess it's all worked out alright. Nobody's dead. Shit still stinks but people keep pooping them out. :)
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