Chinese developers turn to asset securitisation as traditional finance dries up

The financing squeeze on Chinese developers, part of government efforts to rein in home price inflation, is pushing developers to turn to alternative financing models, including asset securitisation.

Asset securitisation, previously a strange term for developers, has become the talk of the town in Beijing . An average of three to four forums on the topic are now being held every week in the capital, drawing crowds of developers, securities brokers, trusts and law firms.

There is also a sense of urgency among developers as first-tier city governments have increasingly demanded that developers hold a certain portion of acquired land for leasing, running against the mainland developers’ predominant model of selling properties to recover funds quickly. In Beijing, where available land is rare, developers have to heed the government’s request to lease all of the space they promised to “self-hold” as landlords, and lease contracts cannot be longer than 10 years.

Asset-backed securities have therefore became imperative for developers, as they can’t sit idly on their property stock and recoup their investment slowly from ongoing rent payments.

“The self-hold requirement will boost leasable properties, and bolster demand for asset securitisation,” said Jin Wei, an investment banker with Huafu Securities.

In China, though, developers have to deal with the reality that legal and tax constraints have barred Real Estate Investment Trust (reits), a global standard for real estate financing. Instead, they rely on what is called “quasi” reits and commercial mortgage-backed securities (CMBS) for securitisation. In both cases, issuers use securities to transfer expected rental income to investors through a complex web of special-purpose vehicles. Unlike reits, these securities are sold privately to a few institutional investors.

Since December, 10 quasi-reits have issued a total of 13.9 billion yuan (US$2 billion) on the mainland and three quasi-CMBS’ have sold 16.9 billion yuan of securities, according to China Securitisation Analytics.

One perennial challenge facing quasi-reits and CMBS’ are surging property values, which pushed rental yields in first-tier cities as low as almost 1 per cent. Another challenge is the rising market rate. Yields of 10-year Treasuries, a benchmark of the risk-free rate, have jumped 78 basis points in the past six months.

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Jin said when the risk-free market rate is low it is much easier to sell quasi-reits and CMBS’ because they don’t have to carry a high rate to lure investors. But when the market rate spikes, as is the case now in China, issuers have to offer higher rates to woo investors.

Experts said the so called CMBS model in China does not resemble those in developed economies, where risk is fully diversified by pooling a myriad of loans. In China, CMBS is in essence a transfer of trust beneficiary and the number of loans is small.

Zhang Li, director of Huafu Securities real estate financing, said rate increases in the past six months have made CMBS less appealing. Quasi-reits are attractive on purely rate terms but also because issuers can improve their balance sheets. “Last September we anticipated a big boost in CMBS. Instead, it is quasi-reits that have led the growth,” he said.

Jin said the appeal of CMBS is furthered reduced by its redemption period of three years. In contrast, quasi-reits are particularly suitable for issuers that don’t have a high issuer rating but have good standalone assets.

Li Wanmin, chief executive officer of real estate private equity fund Grand China Fund, said the biggest obstacle for securitisation is still surging property prices which made owners reluctant to forego their ownership through reits. “They still prefer to see reits as debt financing rather than equity financing.”