Chinese demand for offshore property investment will rebound – with or without a trade war
Jesse Friedlander says US-China trade tensions are largely irrelevant to Chinese seeking offshore diversification and, in the longer term, the factors that are causing the recent slowdown will also ease
Some commentators have linked the slowdown in China’s outbound property investment to US-China trade tensions. However, the slowdown of Chinese investment in real estate in the West and the recent disposals of American commercial property by Chinese companies are not due to geopolitics but rather a combination of industry dynamics, economic forces and Chinese domestic concerns.
First, it is important to recognise that most prime real estate markets had become overheated. The massive Chinese fiscal stimulus of 2008-9, combined with the extremely accommodative monetary policies of Western countries, helped nurture a powerful, Chinese-supported real estate bull run in many gateway cities around the world.
According to the United States’ National Association of Realtors, Chinese buyers accounted for 14 per cent of all international residential real estate transactions in the US and 20 per cent of the total commercial real estate purchases in 2017. This compares to the low single-digit contribution witnessed in the prior decade. Over the years, the Chinese have invested billions in American commercial real estate, with one estimate putting it at US$54 billion since 2000. Chinese entities’ share of property transactions reached such disproportionately high levels that a cool-down was inevitable.
A clear message that the Chinese exuberance for outbound investment would not be sustainable was delivered in 2016 when the Chinese authorities increased restrictions on the ability of domestic firms and individuals to transfer money out of the country. These measures were aimed at stemming the outflow of wealth into foreign property and other non-strategic sectors, so as to protect the domestic financial system. The capital controls were steadily tightened throughout 2017 and remain tight in 2018.
China’s policy of taming major state-owned enterprises which had binged on debt also played a role. Firms such as Anbang Insurance, Dalian Wanda and HNA Group have all been forced by the authorities to unwind their debt-laden property portfolios in high-profile markets such as New York, London and even Hong Kong.
Yet another factor, which is evolving, involves new measures in certain real estate markets aimed at protecting local denizens, whose ability to afford a home has been harmed by foreign buying. Cities that have seen a surge in purchases by mainland Chinese, such as Toronto, Vancouver, Sydney, and even the territory of Hong Kong, have implemented additional stamp duties and other restrictions on property purchases by offshore buyers. New Zealand is currently debating new restrictions on sales to foreigners contained within the Overseas Investment Amendment Bill.
Despite the issues described above, we should remain sanguine about demand for quality property in key cities around the world and particularly in the US, which remains hands down the top market for Chinese investors. While Hong Kong property sales to mainland Chinese have been relatively strong this year, the Post showed that last year the US accounted for 43 per cent of Chinese overseas transactions, far outpacing the 18 per cent for number two Hong Kong. Unlike other key gateway cities for the Chinese, the US has not imposed any restrictions on foreign buyers and does not discriminate against real estate investment because of its geographic origin.
Chances are that Chinese outbound investment will rebound. The Chinese government has highlighted its intention to boost the status of the renminbi, and free conversion of the currency is a critical precursor. With time, China’s authorities will also need to relax their capital controls.
It also appears that the government is becoming more comfortable with leverage inside the economy, as China is adopting a more accommodating monetary policy. Interest rates are lower, as represented by the three-month Shanghai Interbank Offered Rate falling from close to 5 per cent at the beginning of the year to around 3 per cent. This means that the system is now discouraging savings and encouraging investment.
More importantly, the yuan is on a significant weakening trend. Such depreciation causes a deterioration in the international purchasing power of the Chinese. Among the best measures for Chinese individuals and companies to protect their wealth is to gain exposure to stronger currencies.
In conclusion, trade tensions are largely irrelevant to the Chinese seeking offshore diversification. While, on the margins, the government may use state-owned enterprises for geopolitical purposes, China is likely to keep a tight leash on them regardless of what happens within US-China trade negotiations. We should expect Chinese investors to maintain their appetite for overseas real estate assets to protect their wealth.
Jesse Friedlander, CFA, is co-founder and chief investment officer of Des Voeux Partners, a multifamily office that manages intergenerational wealth