5 Reasons Why the Real Estate Boom in China is Unsustainable
Fifty percent of Beijing commercial real estate is vacant… yet Chinese banks continue to finance new mega high-rise projects all over the country.
Stimulus money from Beijing to fight the global financial crisis is drying up. This will cause a major drop off in demand as a large portion of those funds were funneled into real estate development.
Since Chinese culture demands that one’s first apartment cannot be bought second-hand, this throws off the supply and demand picture and renders second-hand apartments temporarily useless. In fact, massive amounts of speculators are buying new apartments but not renting them, but flipping them instead. Supply is building sky-high.
Speculation is getting out of control. A real estate developer is planning on putting a duplicate Times Square in Beijing with 32 Broadway theaters. Entire cities are being built that are, so far, empty. The end is near. Many projects no longer have any profitability factor beyond speculative appreciation.
Credit growth has reached its maximum leverage and is starting to decline. The credit that fueled the boom is drying up.
5 Reasons Why a Slowdown in Real Estate Will Feed into the Real Economy
Construction now accounts of 50-60% of Chinese GDP growth.
Chinese banks already have tons of bad loans, dating back to the 1990s. A wave of defaults would ripple through the banks and the entire economy.
If the real estate market starts heading south it could prompt Western and Overseas Chinese investors to pull their capital out of the country. Remember, foreign direct investment is another huge driver of China’s GDP.
Consumer spending would drop as people’s net-worth evaporates.
There are no more bubbles in China left to be inflated. In the early part of the decade it was the export sector, in 2006-2007 it was the stock market. There are no more domestic asset classes for liquidity to flow into. The debt must be repaid.
5 Chinese Stocks to Short Today!
(LFT) Longtop Financial Services installs software for Chinese banks and financial companies. A slowdown in financial activities would have a major effect on Longtop’s earnings. Moreover, the stock has a ridiculous P/S ratio of 11! Who would want a piece of Longtop's revenue?
(CTRP) C-trip.com provides packaged tours and hotel bookings for trips to China. A decrease in economic activity would definitely affect Western business trip volume. The company has a P/E of 51 and a P/S of 16!
(HMIN) Home Inn’s & Hotels Management Inc. is a Chinese hotel company that both manages and develops properties in China (Read: in the construction business!) The P/E is 46 and the earnings are not consistent. Short it!
(TAO) Claymore/Alpha Shares China Real Estate ETF is a collection of high-end Hong Kong real estate developers. These shares are incredibly hard to short, but if you are able to do so, it would make a lot of sense. Since it is an ETF the volatility will be a lot lower than a stock, but you get the benefit of concentration in a sector that still has a strong market price, but declining fundamentals.
(EDU) New Oriental Education operates language schools and provides software for English study in China. The reason I include this stock is because their customers are 99% middle class Chinese. The current real estate boom has been putting cash in the pockets of middle class Chinese parents, who in turn pay for their kids to get English and piano lessons. The boom correlates with Oriental’s extraordinary 5 year revenue growth. Now, I can’t prove that a slow down in real estate would cause Oriental's revenues to drop. However, the stock is way overvalued on a number of other metrics and has just touched its all time high of $103. A P/E of 47 and slowing revenue growth mean that this is Icarus flying too close to the sun, not a raging bull. So don’t take it by the horns, take out a shot gun and shoot it down!
The problem with shorting Chinese stocks right now is that most of the construction and real estate related stocks are already being heavily shorted. These stocks listed above all have relatively minor accumulated short ratios, so you are less likely to get short sellers covering and pushing up the prices of these stocks if there is China-friendly news.
Disclosure: I am currently short LFT, CTRP, HMIN, TAO and EDU