Morgan Stanley is upgrading real estate in China despite default fears

A pedestrian crosses a road in front of apartment buildings in Beijing, China.

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Morgan Stanley has upgraded China’s real estate sector to ‘attractive’, even as anxious investors are watching closely to see if it is overburdened with debt. Evergrande may fall behind, And Will there be an infection?.

The US investment bank said it believed that the policy of easing in the real estate sector It looks likely to start, which will boost Chinese real estate stocks.

“We believe the risk of default and property market weakness has been largely priced into real estate equities,” Eli Chen, equity analyst at the bank, said in a note dated October 10. currently.”

Real estate stock is priced in part for this risk, and we believe the systemic risk is manageable.

eli chin

Equity Analyst, Morgan Stanley

“There have been many defaults since 2020 and the risk of a major developer default has escalated in 2021,” Chen acknowledged. She wrote that the “adjustment process” to reduce debt and policies to “manage the excesses of the system” is likely to continue over the next six to twelve months.

“However, real estate stocks are pricing a portion of that risk, and we believe the systemic risk is manageable,” Chen said.

Real estate developers in China have grown rapidly after years of excessive debt, which prompted the authorities to implement the “three red lines” policy last year. This policy sets a debt limit in relation to the company’s cash flows, assets and capital levels.

Things came to a head after politics began to rein in developers.

Evergrande, the world’s most indebted developer, warned twice last month that it could default. It has defaulted on interest payments on five foreign bonds so far, which were due in September and October.

Rating agencies also have Other Chinese real estate developers have reduced On tight liquidity and default risk.

Approaching the “inflection point” of politics

But Morgan Stanley said “a turning point in policy is approaching”.

Analysts said there may be “potential easing measures coming,” as policymakers are expected to ease mortgage quotas, as They were trying to boost bank loans.

Home purchases have slowed this year, as Chinese cities have implemented restrictions including home buying restrictions.

“Politics is the most important leading indicator of real estate stocks,” Chen said.

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Residential real estate investment accounts for 6.5% of China’s gross domestic product, while property-related services account for another 7.3%, according to Morgan Stanley. The bank said a 10% slowdown in residential real estate activity could cut GDP growth by about 1%.

“Further repercussions may take the form of a negative wealth effect, which weakens private consumption,” Chen said, adding that as a result, policy makers are likely to provide “meaningful” facilities to stabilize the real estate sector and support the economy.

Moreover, most developers are on track to meet the “three red lines” criterion by the end of 2022, according to Morgan Stanley. The three red lines set a debt limit in relation to the company’s cash flows, assets, and capital levels.

In the first half of 2021, 16 of the 26 developers covered by the bank met the full criteria of the Three Red Lines policy, while nine of the three criteria met the criteria. Only one failed to meet the three criteria for that policy, the bank said.

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