Moody’s downgrades Chinese property sector from stable to negative

Moody's Investors Service has changed its outlook for the Chinese property sector to negative from stable, reflecting the rating agency's expectations for the fundamental credit conditions of the sector over the next 12 to 18 months.

‘China's property developers face a tough operating environment, driven by tightening regulatory measures, rising interest rates, reduced bank lending, and increasing supply. We believe this will inevitably lead to slowing sales, and pressure on profit margins and on balance sheet liquidity for some,’ says Peter Choy, a senior vice president at Moody's office in Hong Kong and lead author of the report.

‘Greater local enforcement of central directives to control residential property prices and purchase will put downward pressure on both prices and volumes of transactions as an increasing number of cities across China more effectively implement national regulations,’ he explained.

‘We anticipate that proceeds from contracted sales of residential properties will decline by an average of 25% to 30% in China's first tier and most of the second tier cities, where local governments have implemented measures to stabilize property prices and prohibit the private ownership of more than two properties per family,’ he added.

‘However, the impact on individual developers will vary, depending on the quality of products, location and number of new projects to be launched in 2011. Those in third and fourth tier cities will be less exposed to the tightening measures.’

It is expected that in the next six to 12 months, Chinese property developers will face challenges in securing onshore debt financing, as the government enforces its strategy of slowing monetary growth to reduce the risk of accelerating inflation and to manage domestic banks' exposure to the property sector.

Tighter domestic credit this year has already led to a spate of offshore fundraising by property developers with offshore listings. Kaven Tsang, an assistant vice president at Moody's, said that the Chinese property developers accumulated large cash holdings from strong sales in 2010. ‘However, we expect their liquidity to weaken this year, due to slowing receipts of presale proceeds and a sizeable cash outflow to cover unsettled bills for acquired lands, larger developments, and maturing trust financing and bank loans,’ he explained.

‘In 2011, a greater supply of new properties, both from developers and from the planned introduction of 10 million low income housing units by the government, will hinder further price increases and lead to a mild correction in cities that experienced the sharpest price rises in the past 12 to 18 months. Higher input costs to build homes will also weigh on margins, as will the need to produce better quality products to compete for buyers in a reduced demand market,’ he added.