New | Insurers, private equity funds take slice of property lending pie from China's banks
Small developers are turning to the capital markets for financing as they fail to secure loans from banks
Strict global bank lending rules set to come into force by 2019 are already redrawing the financial landscape for China's real estate developers, pushing up credit costs across the board and restricting bank loans to all but the most blue-chip borrowers in the sector.
Under Basel III, the new global capital requirement standard for banks, lenders must put aside more capital for reserves when lending to borrowers assessed to be riskier than others.
In real estate, this has created a two-tier world where developers approaching banks for new projects have been flatly declined. Borrowers wanting loans for near-completed or existing properties - where there is essentially collateral to lend against - are more likely to be granted credit lines.
"Banks have stopped their lending in development financing, especially for smaller and medium-sized developers," said Ada Choi, the head of capital markets at real estate investment advisory CBRE.
This is pushing more developers towards the capital markets.
Developers with formal credit ratings have the best options. They are free to tap into a plethora of alternative means of financing and big Chinese developers have recently been among the most active issuers of international debt.
Smaller and medium-sized companies may not be as fortunate, but they are tapping into the funding supplied by two relatively new entrants to the credit markets - insurers and private equity funds, both keen to take a piece of the credit action from banks.
At InfraRed NF Investment Advisers, a private equity joint venture originally founded by HSBC and Nan Fung Group in 2007, chairman Stephen Yuen focuses on mezzanine debt - loans with rights to convert into equity interest.
"Where a lot of other international funds have lost money in the prior years, it's been highly profitable for us in the China market," Yuen, who focuses on projects in China's top tier cities, told the .
Borrowing from local competing trusts and other non-bank financial players are typically in the order of 15 per cent a year, far more than the 6 to 7 per cent prime rates banks commonly charge blue-chip borrowers, according to Choi.
Mezzanine finance typically costs 1 to 2 percentage points more than bank rates, but that still leaves the cost at roughly half that of non-bank lenders.
Repayment periods spread out over seven to 10 years make them very bond-like - a key attraction for borrowers.
In Hong Kong, market participants say a US insurer is actively looking for deals in this area, one of a crop of foreign insurers and real estate funds attracted to the mainland Chinese market by the relatively attractive yields on offer.
It remains early days. However, it is against this backdrop that Choi believes a tipping point may have been reached in the real estate sector, where the trend of lending by non-bank financials, underpinned by insurance and private equity lending taking over from traditional banks, may be starting to take hold.
"In more mature markets in the US and Australia, the trends are well established. Insurers, private equity and real estate funds are sizeable pools of capital, providing real estate financing via a mix of mezzanine and public debt capital," she said.
For insurance and pension investors, yields well in excess of global inflation and with long maturities closer to the long-term liabilities in their portfolios are compelling propositions.
In China, Brookfield Property Partners, which had invested US$500 million of convertible perpetual debt into China's Xintiandi, may have set the standard for more similar deals in the future.
The bond is set to provide an 8.3 per cent return for the first five years - it is convertible into the project's shares when they list.
Full disintermediation in real estate development financing is still years away, but for non-blue-chip real estate developers suffering a capital drought, these new potential financing channels could be a lifeline to those caught between banks unwilling to lend and extremely costly shadow banking capital.
