Welcome to Shanghai, China, the financial capital of the country.  It is also a hub for commerce, culture, industry and tourism.  Shanghai is a major [...]]]>
The Chinese real estate experience in the past few years has been one of growth, increased growth and now, recently stabilized house prices.  Here we give a history of those years.

Welcome to Shanghai, China, the financial capital of the country.  It is also a hub for commerce, culture, industry and tourism.  Shanghai is a major player in the international market and has the largest shipping container port in the world.  A first time buyer looking for a home near Shanghai would not find one they could afford within an hour’s commute of the city. It is one of the most populated cities in the world, but here we can study in great detail the Chinese experience.

Previously, we spoke about China’s success in creating manufacturing capacity, and with it the creation of better jobs and increased wealth. The key to their success is that their currency, the Yuan (Renminbi) has been pegged artificially lower than its true market value, pegged to the U.S. Dollar.  This creates a situation where Chinese goods look more attractive to U.S. consumers than domestically produced ones. Chinese factories get more orders, and have an opportunity to grow at the expense of U.S. producers.  The market turmoil of 2008 was a symptom of the global economy slowly adapting to this great transfer of wealth from the United States to China.  The realization that the U.S. has lost its greatest source of revenue, that is the discretionary spending of the now waning middle class.

This growth has fueled the Chinese economy, which naturally has caused corresponding increases in the value of real estate. China has become awash in money from investments, as well as income from their trade surplus.

In early 2009, world markets were coming to terms with failed banks like Lehman Brothers and government bailouts of corporations.  General Motors, a former industrial powerhouse was one of many massive corporations that were of concern.  Fears of what could happen under a cascade of failing enterprises touched everyone.  Even China was not immune to the crisis.  They injected over 500 Billon U.S. dollars into their economy in the form of stimulus, and lowered their benchmark interest rate in order to protect their economy, just like everyone else around the world. You had a robust manufacturing, low interest rates, abundant cash flow, great growth potential, and favourable exchange rate, everything was going China’s way, of course there would be tremendous growth! Economic growth that made its way to real estate prices too.

In 2009, the average home price in the largest cities of China increased 3.9% some of those cities saw 1% increases in a single month.  By December of 2009 there was concern that owning property was becoming out of reach of ordinary Chinese people and there was a real fear that there could be a real estate bubble forming.  The government soon created a new restriction on the buyers of second homes.  Buyers would have to come up with a down payment of 30% for any home over 90 meters square and a 50% down payment for any home under 90 meters square.  The ability to apply for a loan for a third home was suspended.

Government Corporations wanted to get in on the money that was being made in Chinese real estate.  Companies totally unrelated to the industry began sprouting a real estate division and then developing residential complexes.  Shipbuilders, oil companies, chemical companies, defense contractors, telecom companies, with no experience, with their huge cash reserves began bidding against each other for vacant land that wasn’t even in a highly demanded area.  This poorly contrived system eventually resulted in the construction of homes that still are vacant, cities that are over built. In some cases the builder would build the residential and commercial buildings of a brand new city and also all the infrastructure like airports. These new cities had such a low population that businesses there would have no hope of developing a customer base to support the various enterprises. Thanks to these bidding wars, in 2010, the average home in China increased 10.3%

In January 2011 Shanghai, and Chongqing started charging a property tax to dissuade ownership in these heavily demanded cities.  They also raised the benchmark interest rate three times. However, the one policy that I believe is the true cause of China finally being able to reduce the high growth has to do with their banks ability to lend money.  They increased the amount of money the banks have to keep on hand out of total deposits.  This policy reduces cash flow in the economy because it reduces the amount of loans the bank can issue.  This one policy more than any other, in my opinion has finally slowed Chinese growth, but it does so at the expense of private enterprise. Banks must now keep 21.5% of all the money they receive from depositors on hand and cannot be used as a loan.

This begs the question: is the result worth the price? It may be that this policy hurts the Chinese economy.  Many businesses require loans, loans that they could only get at private lenders with high interest rates (10% per month!)  Once the owners realized they could not keep up the loan payments, they decided to close their business to escape these loan sharks.

The future for real estate in China: You will see very little to no growth while the restrictive bank policy exists, but the government can remove this at anytime, and we will have the booming, growing China back.  The one thing that China has in its future is a growing middle class that will lead to a corresponding growth in the economy and also real estate.  The government cannot legislate its way out of that.  If they want to slow their growth I would float their currency a bit higher, not too much, and find a balancing act with a lower bank deposit rate.  Slower cash flow will only impede regular Chinese people with their private enterprises that help the economy be more efficient.  They need to let private enterprise prosper if they want to grow their middle class.  Tight money does favour the government corporations, but that is not where the future of China is.  It, like in all nations of the world rests in the hands of the middle class.

Transcript

Today we are going to look at what a good real estate investment looks like.  In today’s example we are going to focus on growth potential.  When you buy real estate for an investment, you need growth potential.  So here we are in Macao, China. 

Macao is the historical [...]]]> The story is playing on the video below:

Transcript

Today we are going to look at what a good real estate investment looks like.  In today’s example we are going to focus on growth potential.  When you buy real estate for an investment, you need growth potential.  So here we are in Macao, China. 

Macao is the historical Portuguese settlement in China and its reputation for being the next Vegas is growing.   The amount of China’s population with disposable income is growing year after year.  Any business positioned to entertain these people will experience large growth.  China’s population is the biggest in the world; 1.3 Billion people.  That is a big market!  China also has a policy that encourages bringing the poor earning farmers into the cities where they can earn more money.  Macao is managed independently from the rest of China so they are able to focus on nurturing the entertainment sector to flourish in a sustainable way.  The development here of the Cotai Strip is the most exciting in the region, and one could argue, maybe even in the world.

The Venetian Macao is the anchor for this development, it is the fourth largest building in the world by usable floor space.  It has 10.5 million square feet of floor space.  It is without question the largest casino in the world.  You could stay within the walls of the Venetian and never have to leave.  You can enjoy yourself comfortably in its theatres, its convention rooms, its high end shops and restaurants.  I forgot to mention it also has a casino and hotel.

Others are joining this development at the Cotai Strip as well with their own casino, hotel and boutiques and theatres.  Some of the buildings that are already completed are the Grand Waldo Hotel, the Four Seasons, and also the City of Dreams consisting of the Hard Rock Hotel and Casino, the Grand Hyatt, and also the Crowne Towers, a six star hotel.  More are still being built right now and others are planning to join this exciting development.

With all real estate investments there is two ways to make money.  One is through the growth potential, and the second is cash flow.  This development is an extreme example of growth potential.  The owners of the Venetian paid 2.6 Billion dollars for the land and structure, their plan is to wait while  the Chinese people develop their economy and have more and more money to spend on entertainment. They will increasing ly come to Macao to spend their money on the shows, casinos, hotels, restaurants and shops.  Then this structure will have paid for itself many times over.

Growth potential is important! In this case, the cash flow component is not as critical.  The project is still in its infancy.  They are currently receiving an annual return of 5% on their investment.  For China, an investor would not be happy with this as there are other growth opportunities in China at the moment that one could take advantage of that would tower over the 5% ROI.  This development is focused on the growth potential, the future.  When you have a high growth potential you could almost justify taking a loss in the cash flow side of the equation.  Your growth potential will make up for it in the long run.

Most of us understand growth potential as increasing your equity.  So to summarize, the strategy behind growth potential is to build a structure for 2.6 Billion dollars, and sell it in the future, once the market has matured for 260 Billion (a figure I just made up – don’t quote me on this!)  Even if you lost a billion dollars a year it doesn’t matter.  In this case, they are actually making money, they are making about half a billion dollars per year profit.

So remember this example when you are buying real estate for an investment.  Look for growth potential.  You want to buy something in an area that is being developed.  You don’t want to buy in an area that is already developed, because there is no growth potential.  This is a deep subject that we can discuss together and we can take into consideration your specific case and circumstances and goals.  So when you are ready to invest in real estate, give me a call and we can discuss it.