Is there a property bubble in China?

This is an interesting article in BT today written by Mr Kelvin Tay, who is chief investment strategist Singapore at UBS wealth management.

He believes that there is a visible slowdown in China’s housing starts and construction towards the end of this year. This is a result of the property tightening measures announced by the Chinese government in May, which are aimed at stabilizing the market by curbing speculative demand and at the same time, increasing the supply of housing, in particular public housing.

China’s private residential sector has seen an extraordinary climb in prices over the last 12 – 18 months. China’s construction and real estate sectors are likely to contribute to an estimated 11% of GDP in 2010. The construction industry employs 14.3% of all workers in urban areas and consumes 40% of all steel and lumber produced in China. The private residential sector currently accounts for all almost 40% of the buildings completed by construction industry.

An examination of tier-1 cities revealed that in the 12-month period to April 2010, property prices rose by 64% in Beijing, 39% in Shanghai and actually doubled in Shenzhen. The tier-1 cities accounted for almost 22% of urban residential property sales, rather disproportionate to their share of 8% of total floor space. Prices in Beijing reached a stratospheric 28,000 yuan per square metre (which equates to about S$518psf) in the same period.


 
So what has all these got to do with our local property market?

Mr Tay believes that a slowdown in China’s property market at this stage of its economic cycle is very much welcome news. Should the China property market overheats and ultimately suffers a systematic collapse, it would have serious ramifications for Asia, including Singapore.

A collapse in China’s property market resulting in financial contagion might affect the Singapore property market both directly and indirectly. As of July last year, Chinese nationals are currently the second largest source of foreign buyers of property in Singapore. Any crash in China’s property market and subsequent economic slowdown would probably change that equation.

Furthermore, over the past two decades, systematic crises have always negatively impacted Singapore’s property market. The Asian financial crisis in July 1997, Nasdaq crash in March 2000 and the credit crisis in 2008 all resulted in double-digit declines in the local property market.

However, Mr Tay says that it is the indirect impact that is actually more worrying. Since 2007, almost all home loans in Singapore are based on floating rates. Mortgage rates are usually pegged to the three-month Singapore Interbank Offered Rate (Sibor) or three-month Singapore Offered rate (SOR), plus a premium that ranges between 1.25% and 1.75%.

Therefore, if Sibor or SOR spikes up suddenly and remains at stubbornly elevated levels for a long time, property owners tied to such loans might suddenly find their monthly mortgages taking up a disproportionate amount of their monthly income.

Have there been instances when Sibor suddenly behaved erratically? The Asian financial crisis was one such example. Sibor spiked up to a high of 7.75% before finally sliding to 1.9% in December 1998. The average rate of Sibor during the 18-month period hovered at 4.9%. As Asia was fortunately not at the epicentre of the credit crisis in 2008, Sibor did not behave erratically but averaged around 1.3%, more than twice the current rate of 0.56%.

However, Mr Tay also believes that the likelihood of the above scenario panning out is rather slim. This is because the sharp appreciation in property prices in China has been largely restricted to tier-1 cities, leaving the fundamentals of the broader market intact.

So the judgement is still out on the future of the China property market and its impact on the Singapore market. But the wife and I will definitely avoid any decision to drastically increase our housing loans for the next 6 – 12 months, despite the extremely low housing interest rates that are offered at present.
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