Evergrande is a name that most people do not know, but as the FT reports this morning:
Investors in an Evergrande offshore bond say they have yet to receive a closely watched interest payment that was due on Thursday, adding to uncertainty over an unfolding liquidity crisis at the world's most indebted property developer.
The $83.5m payment had a deadline of midnight in New York on Thursday, or noon on Friday in Hong Kong.
Reports suggest that the payment has not been made.
Why does this matter? First, this is a potential default by, as the FT note, the world's biggest property developer. What that obviously implies is that property might not be worth what people thought it was. The financial obligations has might be expressed in renminbi (although this debt seems to be secure, at least for now) or dollars (which is the part currently at risk) but the underlying asset is a real thing - a building - and that is no respecter of monetarily recorded value attributed to it, which is only the expression of an opinion at a point of time. If that opinion on value changes - as it seems it might well be doing, in China at least - the leverage in fixed currency amounts becomes unsustainable. If this is replicated the value of whole property sector is in doubt, and that is what caused the 2008 crisis.
And, second, that can, of course, lead to a debt crisis. Evergrande debt is already trading at a significant discount to face value for precisely this reason. But once again, if that become commonplace balance sheets that are based on the perception of the value of debt rather than tangible assets (like buildings) also become subject to doubt and the whole edifice of corporate value comes into question.
Third, the whole reason why this issue is, in that case, receiving so much attention is that there is speculation that this event could be akin to the suspension of trading in various subprime debts by BNP in August 2007, which was the first real sign of the coming global financial crisis.
What do I think? Candidly, I cannot say whether this is the second tipping point I have needed to write about this morning. Only history identifies them. But that there is massive asset overvaluation on corporate and bank balance sheets is to me obvious: low-interest rates, financialisation, over leveraging and exuberance in the face of reality has left markets and property over-valued as supposed stores of value for the excess of global savings that now exists, and which will surely be subject to a serious price adjustment and a haircut for the wealthy sometime soon. Evergrande may be the indicator of that. If it isn't, something else will be.
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Whatever one’s opinion of the CCP in general, I think their effort to prevent a further inflation of the Real Estate bubble was a good effort. The “three red lines” (introduced last year) has certainly clipped the wings of many developers/speculators – in particular leverage. But was it “too little, too late”? Well, sending Evergrande bust suggests NOT too little but certainly too late. But, better late than never.
Evergrande bonds have been trading at deep discounts for some time but we are now into the 30 day “grace period” where the clock starts ticking and we really see what is going to happen.
First question? Does the CCP have sufficient control to manage towards the outcome it desires? If not, then we should all look out! The idea that it is contained within China is a nonsense and we will see a big impact.
Second question? If (and it is a big if) the CCP CAN deliver its desired outcome, what would that look like? First, it is about Party authority versus the authority of wealth. I would not like to be in the shoes of Evergrande’s management right now.
Second, middle-class apartment owners in China matter. I think the CCP will support the completion of existing presold projects and payout (with a modest haircut) those who had savings/deposits with Evergrande. So, who will take the hit? It has to be banks (who can be pressed into supporting an orderly unwind) and bond holders who will probably get no more than 30 cents on the dollar.
Gillian Tett (FT) likens this to the Regional Bank collapse in Japan rather than a “Lehman moment” – and I suspect she is right. This is exploring “too big to fail” Chinese style.
I suggest China knows that in order to keep people unfree at least the middle class have to have reasonable financial security. That is the trade off between wealth and freedom.
I think I’m correct that all Chinese banks are state owned so the Chinese state knows that as it creates all the money, whether as loans or spending, it can – and does – just write off debts at will.
Dollar bondholders will be either foreigners or perhaps home speculators so must expect Western standards of (lack of) protection.
So I agree with Clive, though I arrived by a slightly different route…
The West of course above all values ‘freedom’, which comes increasingly with less and less financial security.
I’d suggest that because China understands money while the US is in hock to bankers, (and so has to satisfy what can sometimes be an ‘enemy within’) that Chinese economic world hegemony is ever more certain.