China’s Bust a Boom for California Real Estate?

Despite numerous alarming articles following the implosion of the Chinese stock market, it is too early to declare China’s recent economic woes a Bust. In fact, in the past two months the stock market has seen moderate signs of recovery.

Certainly, the crash of China’s two major stock exchanges in Shenzhen and Shanghai this past June had investors and the Chinese government worried enough to implement a freeze on trading for almost 50 percent of its shares, underscoring the difference in China’s ‘managed market’ and the free market stock exchanges in the United States and Europe.

While USD 3.1 trillion in market value has been erased since mid-June, it is important to understand several factors that may provide a prediction of what all this means for international markets and specifically for the area of our interest, real estate in the U.S.

• The way this lost wealth was distributed.
• The actual impact on Chinese consumers.
• The perception of what is yet to come.

Waning confidence in China’s stock markets

Let’s start with a balanced view. The international media has in fact been divided. For every doomsday prediction such as the one by Bloomberg stating that “China is steering towards a Subprime economy,” there has been a counter view such as by Goldman Sachs that “everyone’s wrong on China’s ‘fast and furious’ stock market collapse.” There is truth to both sides.

China’s stock market was indeed in trouble despite recent gains, and the government’s somewhat desperate measures to shore it up and in essence establish a hard floor, reflected the seriousness of the situation. However, only 9 percent of Chinese households actively trade in shares. Moreover, while a lot of the trouble was due to an increasing number of margin trading, the number of such margin traders accounted for only 6 percent.

The actual impact on the spending power by most Chinese as a result of the recent stock market volatility is relatively limited. The overall slowdown of the Chinese economy over the past three years and the continuing decline in China’s domestic home prices over the past eight months has contributed to a “chill” in the market with consumer spending within China down to a six-year low.

China’s domestic real estate market and overseas investing

The Chinese domestic real estate market continues to decline. Both sales prices and volume of have been falling. This decline is expected to continue, as investments in real estate and new developments are still rising leading to more overbuilding. Despite the contracting domestic real estate market however, the economy is overall still growing at a rate of around 7 percent. So the question is where will Chinese investors be investing their still growing amounts of Chinese money.

One of the major impediments to overseas real estate investments for Chinese is how to gather sufficient foreign currency to make such investments. Each Chinese individual is restricted to exchange a maximum of USD 50,000’s worth of Chinese Yuan (RenMinBi) into foreign currency per year.

Until now, in order to make an overseas real estate purchase, Chinese have had to rely on friends and family to put together sufficient foreign funds or find creative other means. This is largely the reason why in the past five years, the average prices of residential property in the U.S. purchased by Chinese have been limited and hovered around USD 1 million. It is not that Chinese investors cannot afford higher priced real estate but rather that it is not easy to take Chinese money out legally.

Since the beginning of 2015, Chinese government policies have slowly been loosening the restrictions on foreign currency exchange and at the end of Q1 2015, a new Qualified Domestic Institutional Investor (QDII2) program was announced to make it easier for wealthy Chinese to invest in overseas real estate and international stock markets.

This new program is anticipated to come into effect, first as a pilot in limited cities and free trade zones, followed by much broader adoption.

The impact on the US real estate market

The short-term impact, through the end of 2015 on the U.S. real estate market is expected to see a modest decline compared to last year. However, with the combination of reduced confidence in China’s domestic stock exchanges, the decline of China’s own domestic real estate market, the continuing push to diversify assets overseas and expected loosening of restrictions on foreign exchange, China’s investors will not only continue to purchase overseas properties, but such purchases will likely increase significantly.

The two to three year outlook projects robust growth in overseas property purchases by Chinese investors, with the top destinations being the real estate markets in the U.S., and especially in West and East Coast cities.

For brokerage firms and real estate developers in the U.S., it would be wise to prepare now for this continuing trend and anticipated growth in both the number of Chinese buyers and the amount of available funds.

Such preparations include:

• Overcoming the language barrier by offering listings in both English and Chinese.
• Hiring Chinese speaking staff to host buyers when they visit.
• Being aware of and ready for the seasonal nature of visits by Chinese buyers.
• Building a brand in China, so that buyers are already familiar it.

Sean is founding partner of ParnersTrust China, which was founded to help Partners establish a high profile presence in China, and executive director of TH Capital. He has 26 years of experience in the real estate space, private equity and architecture.