Funds must adjust to less returns in China’s property investments

Grand China Fund (盛世神州), one of the largest real estate private equity funds in China with investment in the mainland and the US, has cautioned that funds investing in the mainland’s property market need to accept a lower return as the days of fat margins are over.

“Consensus within the industry is, long gone are the days when a big fortune is secured as long as you get a plot [of land]. At that time, developers can accept high-cost funding from PE funds, but when their margins were squeezed thin, they cannot afford such funding,” said Li Wanming, CEO of Grand China Fund, which manages over 20 billion yuan of renminbi-denominated assets and US$1.5 billion of US dollar assets.

Li said in the company’s early phase of development five years ago, debt financing for developers, which was almost risk-free, could yield an annualised 20 per cent, or even 30 per cent return, as the borrowers’ returns could be much higher because of the surging home prices and high leverage.

At present, the fund’s average 10 per cent yield was considered “good” by industry standards, he said.

Li said during the 2010 to 2013 boom for private equity (PE) funds, funds even struck profit-sharing agreements with developers, based on the selling prices.

For example, for flats that were sold for under 5,700 yuan per square metre, funds earned a basic return. But when the selling price reached between 5,700 and 6,000 yuan, funds earned a 20 per cent of the additional earnings, and when prices exceeded 6,000, the percentage shrank slightly.

With selling prices rising continuously, it came to a point where developers became reluctant to agree to such terms, and only agreed to fixed returns.