Chanos could lose big on China bubble bets

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This post is a guest contribution by Dian Chu, market analyst, trader and author of the Economic Forecasts and Opinions blog.

Amid growing fears of a real-estate bubble, Chinese officials moved to restrain bank lending and rein in inflation by raising China’s bank reserve requirements twice in one month. Global financial markets reacted with risk aversion driving up both the US dollar and Treasuries because of concerns that the leading recovery growth engine of the world could be slowing.

High price & high vacancy In Beijing, the amount of residential floor space sold in 2009 skyrocketed 82% from the year before. Bloomberg reported that Beijing’s office vacancy rate was 22,4% in the third quarter of 2009. Those figures don’t include many new buildings about to open, such as the city’s tallest, the $966 million 74-story China World Tower 3.

In a separate Bloomberg report, an executive from a property advisory firm estimated that roughly 50% of Beijing’s commercial space is vacant today. Meanwhile, according to data from the National Bureau of Statistics, housing prices in China saw a 24% growth spike in 2009. In January, property prices in 70 cities across China rose 9.5% year-on-year, the eighth consecutive year-on-year rise. Standard Chartered also noted in early February that at least seven cities saw land prices triple in 2009.

Dubai x 1,000? What happened is that the liquidity bubble went towards the Chinese property market as developers with access to the $1,4 trillion in new loans last year built skyscrapers and luxury housing.

The surge in lending and strong house prices underscores the concern that the economy is at risk of overheating, and is reminiscent of the US housing bubble. Famous short seller Jim Chanos characterized China as “Dubai times 1,000, or worse,” suggesting that Beijing is cooking its books and manipulating both financial and growth numbers, among other accounting gimmicks.

Bubble call premature Most analysts, however, agree that whatever real estate downturn occurs in China, it won’t equal the crisis experienced in the US.

The issue with bubbles is the lack of an accepted scientific means to properly identify and measure. One way to look at it is to compare the China housing price inflation level with a known housing bubble – the US.

At the height of the US housing boom in mid-2006, prices peaked as much as 90% higher than at the start of their six-year climb. Based on the data from the National Bureau of Statistics, the average home price in China had shot up by roughly the same percentage in the period from 2004 to 2009. Nevertheless, China’s pricing point started at a much lower level than in the US. So, the seemingly equal 90% appreciation does not necessarily translate into the same bubble story.

Koyo Ozeki, head of the Asian credit research group for PIMCO, made a strong case for China’s real-estate market in a recent research report:

“Given China’s potential growth, its real-estate market has plenty of room for enlargement over the long term…”

Ozeki’s view is based on a comparison of the amount of credit extended to the Chinese property sector from 2003 to 2009, equalling 40% of China’s gross domestic product. In the US the figure was 80% from 2000 to 2007.

No US-style bubble Furthermore, the Chinese aren’t exposed to the low-to-no-down-payment loans once popular in the US as down-payments in China average 40% to 60% of the sales price. In other words, the amount of buyer leverage is much lower in China compared with the US, and is less likely to lead to a US-style bubble.

In addition, the US financial crisis was mostly a result of the securitisation of mortgages and the offloading by banks to the markets. This is not part of China’s market structure, which means the impact of a bursting Chinese real-estate bubble would likely be much more muted.

Overblown by short sellers agenda Harvard University financial historian Niall Ferguson points out that:

“Excessively loose monetary policy causes asset bubbles and excessively loose monetary policy is what we have now, it’s a little early to start pointing fingers and calling things ‘bubbles’, however.”

Essentially, the global fear perception of “a sharp new rise of asset prices = bubble” is stoked by the US housing crisis, which ultimately leads to the Great Depression and is used to further Short Sellers Agenda by the likes of James Chanos and others “talking their book” on short positions regarding Chinese investments.

Early intervention is key In the case of any bubble, the sooner the government takes measures, the less damage the bubble can cause to the economy. And Chinese authorities have already taken a series of measures, including a nationwide property sales tax and raising bank reserve requirements, to slow the red-hot market. The message coming out of Beijing right now is that policymakers are becoming more concerned about containing inflation and managing the risk of asset price bubbles. Some analysts also expect more monetary tightening from Beijing in the second quarter.

Long-term challenges abound This is not to say all’s well in China. For instance, high property prices and dim career prospects for the young college graduates (aka ‘ant tribe’) will continue to pose a social economic challenge for Beijing. And economic stagnation would certainly exacerbate this imbalance.

But most of these challenges are long term in nature. If it took almost 20 years for the US subprime mortgage bubble to pop, China conceivably should have plenty of time to still expand while implementing proper policies and measures to prevent a US-style asset bubble collapse.

California & Greece before China So, Jim Chanos’s view of China appears to have some premature conclusions based solely upon flawed analogies with the US real-estate market without taking into consideration the different cultural and market factors.

Meanwhile, in the light of a Bloomberg report (hat tip: Mark Turok) indicating many “money-is-no-object” Chinese investors are travelling halfway across the globe to buy up distressed properties in Los Angeles, California at an average price tag of $3 million, the following should serve as timely advice:

The likelihood of California (and/or Greece) becoming a vassal state of China seems far more imminent than a bubble burst in the East. Place your shorts wisely.

“Reputation is a bubble which man bursts when he tries to blow it for himself.”  ~ Unknown.

Source: Dian Chu, Economic Forecasts & Opinions, February 19, 2010.

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1 comment to Chanos could lose big on China bubble bets

  • leo

    China won’t have a US style bubble does not mean China is not a bubble in her own style.

    If the GDP growth in past several years was mainly contributed by export (with the help of pegged exchange rate, tax aid, pollution and etc) and fixed asset investment, what is the potential of China for future growth?

    You cannot project future growth rate with the past, which was pumped up by a command economy by all means.

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