Chinese property developers borrow at record pace

Global investors are lending money to Chinese property developers in record amounts this year, in spite of a deteriorating housing market and warnings from rating agencies over the state of the sector.

Offshore bond issuance from mainland property companies is on track for a record year, with $18bn of debt sold year to date, according to Dealogic - fast approaching the $19.5bn total for all of 2013. The year's biggest deal came in July, when Sino-Ocean Land borrowed $1.2bn in the dollar bond market.

The rise in offshore borrowing has coincided with tighter credit conditions within China that have forced developers to look overseas for funding.

Beijing has been trying to reduce leverage in the domestic economy following a period of rapid credit expansion. As a result, banks have cut back on lending to certain sectors and the growth of alternative funding channels such as trust loans has slowed.

Falling housing sales have also hit the most important cash generator for developers. Sales have dropped 8.2 per cent so far this year by value, while price cuts introduced to entice buyers have dented margins.

A number of listed developers have issued profit warnings, including Greentown - the biggest developer in Hangzhou - as well as China Overseas Grand Oceans and Greenland Hong Kong, both Hong Kong-listed units of state-owned property groups.

In spite of worsening market conditions, global investors seeking yield in an era of record low interest rates have shown willingness to step into the breach. Developers have borrowed a total of $27.6bn via offshore bonds and syndicated loans so far this year, according to Dealogic, up from $26.9bn over the same period last year.

But while lending has continued at a rapid rate, investors have become more demanding. The latest 5-year bond sold in April by Poly Real Estate - one of China's largest developers - paid a coupon of 5.25 per cent, up from the 4.5 per cent it offered in a similar deal completed last year.

Debt levels within the sector have risen sharply this year as earnings have dropped and borrowing has increased. For example, Barclays estimates that net gearing at Evergrande, China's third-largest developer by sales, will rise to 200 per cent by the end of this year, up from 91 per cent in 2012.

Many analysts believe that the problems in the sector will be felt most acutely by small, local developers - those unlikely to have access to offshore funding. Hopes, too, that steps by local government to boost demand and improve access to credit will provide support have helped fuel a rally in some property shares.

However, rating agencies have warned that the risks are growing, and could yet spread to the bigger players. So far this year, Standard & Poors has taken eight negative rating actions on Chinese real estate companies, compared to just four positive moves - a trend it expects to continue.

"Sustained weak market conditions will erode the credit profiles of Chinese developers overall and will even bring the survival prospects of some weak players into question over the next couple of years," S&P analysts wrote in a recent report.

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