How China's housing crisis blew up bets they couldn't lose


One of China's largest investment firms, Citic Trust, had a clear pitch to investors when it aimed to raise $1.7 billion to finance real estate development in 2020: there is no safer Chinese investment than the real estate sector.

The trust, the investment arm of state financial conglomerate Citic, called housing “China's economic drag” and “an investment of indispensable value.” The money it raised would go toward four projects by Sunac China Holdings, a major developer.

Three years later, investors who put their money into the Citic fund have recovered only a small fraction of their investment. Three of the fund's construction projects are on hold or significantly delayed due to financing issues or poor sales. Sunac defaulted and is trying to restructure its debt.

The collapse of the Citic fund offers a window into the broader problems facing China's ailing property sector. What started as a real estate crisis has become a full-blown crisis. Local government budgets, which depended on income from the real estate sector, have been destabilized. The shock suffered by the country's financial system has depleted China's capital markets.

The nexus between government, financial institutions and businesses supercharged China's real estate sector for years, paving the way for relentless construction that propelled real estate to become the largest sector in the economy. But the links that once fueled growth are now deepening the slowdown as problems spread across the economy.

This month, China South City Holdings, a state-backed real estate developer, warned that it did not have funds to pay interest on its foreign debt, and investors agreed to restructure the debt to avoid possible default. And Hywin Wealth Management, a major real estate investor, saying had to delay some bailout payments, citing “the economic downturn.”

Confidence in the investment sector was already shaky. In November, a financial giant that managed $140 billion in assets, Zhongzhi Business Group, told investors that it was “severely insolvent.” Zhongzhi's wealth management division began missing payments to investors in July and said it had a financial deficit of $36 billion.

For its part, China's central government pledged this month to “actively and prudently resolve real estate risks” and help companies meet their “reasonable financial needs.” The problems have become so big that it seemed that Beijing, which has not yet offered a lifeline to troubled developers, was finally signaling its willingness to intervene after more than 50 companies defaulted on their loans since 2021.

“Three years ago, no one would have dreamed of this amount of default,” said Andrew Collier, managing director at Orient Capital, an economic research firm in Hong Kong. “It's pretty amazing.”

Trust companies like Citic are arms of China's so-called shadow banking system that sell investment products to wealthy companies and individuals. They face few requirements to publicly disclose information about their operations and, as a group, manage $3 billion in assets.

Real estate developers had relied on trust firms to make loans and invest in businesses that regulators considered too risky for traditional banks. The trusts converted the loans into investment products that they then sold to Chinese companies and wealthy individuals, promising lucrative returns.

The market was booming when Citic Trust created the Junkun Equity Fund, raising $1.7 billion for Sunac to use. With property prices on the rise, as Sunac projects progressed and properties were sold, investors would get their money and a portion of the profits back after three years. The return on the Junkun fund, one of hundreds offered by Citic Trust, was potentially higher than an investment with a fixed return, but it also involved more risk.

Although Citic did not guarantee how much money investors would make, it included in its marketing materials a chart of “similar projects” from Sunac that had generated double-digit returns.

At least that's how it was supposed to work.

Celina Zhang said she invested around $420,000, a significant part of her savings, in this fund in 2020, because Citic Trust was a big, trusted brand. A Citic investment manager virtually assured her that she would get her capital back and annual returns of more than 7.5 percent, Ms. Zhang said.

“At that time, I was quite confident in real estate,” said Ms. Zhang, 38, who lives in the southern Chinese city of Shenzhen. “All house prices were going up.”

But from the beginning, events faced challenges. The projects were a mix of residential and commercial properties in three southern cities (Chengdu, Guiyang and Shaoxing) and one in Xi'an, central China. And like the rest of the world, China was dealing with Covid. Pandemic restrictions caused construction delays and hurt property sales.

Citic Trust, in a statement, said it “has firmly safeguarded the legitimate rights and interests of its clients” and has made “some progress” in minimizing risks arising from the real estate market. He declined to comment on the Junkun fund.

Sunac did not respond to requests for comment.

Also around the time the fund was created, policymakers in Beijing, concerned about a housing bubble and reckless speculation, implemented new rules aimed at curbing excessive indebtedness by developers. This created liquidity problems for many developers. In May 2022, Sunac said it had defaulted on a bond and warned it would not be able to make further debt payments.

The impact on Citic's investments was drastic. Citic Trust was forced to suspend construction last year on the Chengdu project.

A Citic Trust official said at an investor briefing in November that it did so because its research showed demand would remain weak for many months and Covid lockdowns made the situation unpredictable, according to a recording of the revised briefing. by The New York Times. Citic said it feared sales could not keep pace with construction costs.

For a mixed residential and commercial real estate project in Shaoxing, a city near the coast famous for its locally produced yellow wine, preliminary sales have been slow.

Citic considered selling the project in January but had difficulty finding a buyer because developers were downsizing, a company official said at the briefing. Then, after sales slowed in July, Citic said it decided to try to find a company to invest in the project to help ease the financial burden.

In Guiyang, southwest China, Sunac broke ground shortly after acquiring land use rights in May 2020 from the city government for about $245 million. But the project has been hit by a series of stops and starts, including a month-long suspension in August due to “general procurement financing issues,” according to a management report to investors.

When the investment in Citic matured in October, Ms. Zhang said, she had received about $80,000 in payments, although it was not clear to her whether this was interest on her investment or part of her $420,000 principal.

In November, Citic Trust held a briefing to calm investors who were demanding an explanation for the late payment in October. At the meeting, a company official said the projects retained some value and expressed hope that recent government policies would help, although there was currently no “obvious tangible effect.”

The Citic official acknowledged that “the entire market is not good now,” but asked for patience.

“The money hasn't arrived, so everyone will probably be worried and angry – this is normal,” he said. “But don't be too angry.”

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