Moody's negative rating on China property sector to hit developer bonds

Ratings agency Moody's downgraded the mainland's property sector to negative from stable, underscoring the financial risks of developers and worrying investors who have been buying offshore bonds issued by Chinese real estate firms in record sums this year, though the immediate impact on property stocks was muted.

The revision came after mainland property transactions and construction activities contracted in the first four months of this year, despite price cuts by some developers hoping to boost the pace of sales.

"We also expect developers' liquidity to weaken as collection of sales proceeds slows," said Franco Leung, Moody's property analyst.

The downgrade seemed to be taken in its stride by property shares in Hong Kong and Shanghai, as they opened lower but closed up in the afternoon.

Shenzhen-listed China Vanke, the mainland's biggest developer, has shed 3.6 per cent this year but finished yesterday flat at 7.74 yuan (HK$9.72). Hong Kong-listed China Overseas Land & Investment, the mainland's largest developer by market cap, has fallen 14.2 per cent so far this year, but closed yesterday up 0.2 per cent at HK$18.70.

Housing inventory in the eight first- and second-tier cities tracked by Moody's stood at about 14 months at the end of April, the highest since hitting about 16 months in February 2012. "Such high inventory levels will weaken developers' pricing power and pressure their working capital and profit margins during the outlook period," Moody's said.

The agency expected average home prices across China would increase by less than 5 per cent this year, reflecting the weak demand in the sector.

Moody's said most developers who practice prudent financial management and good liquidity stood a better chance of surviving the downturn. But the rating agency singled out Glorious Property, Coastal Greenland and Renhe Commercial as being in particularly poor shape.

Data from the mainland's private property agencies showed transactions failed to revive after the central bank ordered lenders to speed up the processing of mortgage loans last week. But the push indicated there were policy levers available to support the industry when needed, Moody's said.

As the domestic liquidity outlook remained uncertain, Moody's said the bond issuing spree of mainland developers would likely slow down with investors demanding higher returns and becoming pickier on smaller issuers.

"In the later part of this year, investors will [be] confined to quality issuers," said Kaven Tsang, Moody's senior property analyst. "The number of issues could [be] reduced."

Last week, Country Garden had to reoffer its US$550 million five-year senior notes at a yield of 8.125 per cent against its coupon rate of 7.875 per cent, as concerns arose about its deteriorating financials after aggressive expansion in the past two years.

Bloomberg data showed the spread for five-year credit default swaps for Agile Property rose 48 basis points since Monday last week while the spread for five-year Shimao certificates of deposit climbed 23 basis points in the same period.

This marks a rise in the cost of protection against default from such issuers.