Analysis: Chinese money and Australian real estate

One of the most frequently asked questions by financial reporters at press conferences these days is about the impact of foreign investors – typically Chinese – on the Australian property market. How much do they own? Is it on the rise? How do Chinese investors buy local real estate when they can only take $50,000 out of the country at a time? Are they paying cash or getting a mortgage?

Some of these questions can be answered – others are swiftly avoided.

The latest Foreign Investment Review Board (FIRB) figures, released earlier this month, showed that Chinese investment in Australian real estate doubled to $24 billion in the 2014-15 financial year.

However, more recent figures suggest that demand is waning.

According to the latest NAB Quarterly Australian Residential Property Survey, released this week, the share of demand coming from foreign buyers fell to a two-and-a-half year low of 11.8 per cent – down from a peak of 16.8 per cent in the third quarter of 2014.

NAB Group chief economist Alan Oster noted that foreign investor market share of property sales in both new and established housing markets has been falling since the final quarter of 2015, which also coincides with the introduction of tighter legislation around foreign purchases of Australian property.

However, foreign buyer preferences are also changing. The NAB survey highlighted a shift in foreign buyers away from Victoria and NSW to Queensland, perhaps in search of better value.

“Foreign buyers in Victoria and NSW accounted for around one in 10 new property sales in the March quarter, but in Queensland they purchased over one in five new properties,” Mr Oster said.

“Foreign buyers had previously accounted for around one in three new home sales in Victoria in late 2014 and around one in five sales in NSW in early 2015,” he said.

While plenty of newspaper column inches have been filled with fears over Chinese buying up local real estate, concerns have now been raised by the central bank if the reverse were to happen.

In its half-yearly Financial Stability Review, released earlier this month, the RBA predicted that a substantial reduction in Chinese demand would likely weigh most heavily on the apartment markets of inner-city Melbourne and parts of Sydney, “not only because Chinese buyers are particularly prevalent in these segments but also because other factors would reinforce any initial fall in prices”.

“These include the large recent expansion in supply in these areas as well as the practice of buying off-the-plan, which increases the risk of price declines should a large volume of apartments return to the market if the original purchases fail to settle.”

While Australian banks have little direct exposure to Chinese property investors, the Reserve Bank fears a reduction in demand could trigger broader risks for local lenders.

“Although the direct exposures are small, if a reduction in Chinese demand did weigh on housing prices, this could affect banks’ broader mortgage books to some extent,” the RBA said.

According to the Review, Chinese property demand could fall as a result of a sharp slowdown in China accompanied by depreciation of the renminbi against the Aussie dollar.

The RBA warned that further tightening of capital controls by Chinese authorities and any event that lessens Australia’s appeal or accessibility as a migration destination – including for study purposes – could also trigger a reduction in Chinese demand for local real estate.

A closer look at the state of the Chinese economy may provide some clarity around these triggers.

Global asset manager AllianceBernstein (AB) recently said it remains optimistic about China’s long-term prospects, but warns that short-term risks in the policy arena and property market have intensified and “now turn on a knife-edge”.

Hayden Briscoe, AB’s director – Asia-Pacific fixed income, said policy risk has always been a key concern in China as the country seeks to rebalance its economy from an investment-driven model to one in which consumption plays a greater role.

“This concern has increased, most recently as a result of the budget announced at last month’s National People’s Congress,” Mr Briscoe said.

AB’s analysis showed that nearly half of the planned fiscal shortfall consisted of tax cuts, reductions in business imposts (to boost competitiveness) and provision for redundancy payments expected as a result of cuts to overcapacity in heavy industries.

“In other words, a high proportion of the budget was dedicated to pushing through the government’s supply-side economic reforms, with the balance aimed at stimulating local investment demand, mainly through support to the infrastructure and housing sectors,” Mr Briscoe said.

“The policy risk posed by the budget, in our view, is that it creates the potential for a vicious and ultimately self-defeating cycle, in which more stimulation for housing and infrastructure leads to a compensatory response in the form of more aggressive implementation of supply-side reform.”

According to Mr Briscoe, the policy risks are compounded by resurgence in cyclical risk, particularly in the housing market.

“So far this year, average sale prices for residential properties in Beijing, Shanghai and Shenzhen have risen by 31 per cent, 26 per cent and 74 per cent respectively. Even by Chinese standards, these are exuberant increases,” he said.

The price rises were being driven by excessive liquidity rather than fundamental demand, Mr Briscoe said, with the liquidity being provided in the form of down payment loans from real estate agents, peer-to-peer lenders, wealth management products and developers.

While the loan volumes to date appear to pose no risk to the financial system, the situation is risky for the housing market which, Mr Briscoe said, “is now on a knife edge of its own following action by the Chinese government to suspend down payment lending and investigate the practice.”

“The likely broader impact of this is hard to assess at the moment as it depends on how the government handles the issue. The worst case, in our view, could be a crackdown on the liquidity available for property purchase, which could trigger an equity-like collapse in the property market, with prices potentially falling 20 per cent to 30 per cent.”

Such a collapse could reduce the capacity for the Chinese to continue buying Australian real estate. In the event of a downturn, it is more than likely that the Chinese will turn their attentions to matters closer to home before they consider opportunities offshore.

If this were to happen, and Chinese demand for Australian real estate does indeed fall back, the impact on local property will be specific, according to the RBA.

“A substantial reduction in Chinese demand would likely weigh most heavily on the apartment markets of inner-city Melbourne and parts of Sydney, not only because Chinese buyers are particularly prevalent in these segments but also because other factors would reinforce any initial fall in prices,” it said.

“These include the large recent expansion in supply in these areas as well as the practice of buying off-the-plan, which increases the risk of price declines should a large volume of apartments return to the market if the original purchases fail to settle.”

Local mortgage providers are already taking action. ANZ and CBA this month changed their home loan policies, reducing the exposure of their mortgage books to foreign incomes.