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How The Property Downturn Is Hitting Asia-Pacific Banks

Take property, add banks, and you have the ingredients for contagion. These thoughts are on the minds of investors as Asia-Pacific grapples with high rates and sharp drops in home sales in key markets, particularly China.

S&P Global Ratings provided a forum for our analysts and market participants to discuss these issues at a recent webinar, titled "Will Property Downturns Hit Asia-Pacific Banking Systems?"

We view the unfolding strains as broadly manageable across Asia-Pacific banking systems. Asia-Pacific lenders are built to withstand the frequent bouts of volatility that roll through Asia-Pacific. Institutions are adequately capitalized and closely regulated.

We caveat this by noting that property markets can quickly move from downturn to crisis. The heavy leverage of the sector, the high involvement of individual homeowners alongside developers and investors, and the potential for spillover to banks have triggered many property-led contagion events in recent history, not least the global financial crisis.

This explains the strong interest for our event. More than 400 attended the webinar, which generated in excess of 75 questions from the audience.

"Investors are increasingly asking us about banks' exposure to property," said Gavin Gunning, Global and Asia-Pacific sector lead for financial institutions ratings. "This is not exclusively for the Chinese market, which has weathered a pronounced downturn for two years now, and counting. Commercial vacancy rates in Malaysia are high, and the big developers in Vietnam are highly leveraged."

"It is a nuanced credit story across the 18 banking jurisdictions we cover in Asia-Pacific, not just a China story," added Mr. Gunning.

To view a replay of the webinar, click here.

All Eyes On China

China is the epicenter of the region's property strains. No country has seen as much real estate wealth evaporate since 2021. China is not contending with the high rates that are hurting other markets--it is cutting rates, in fact. Instead, its downturn is the byproduct of opaque accounting at some large developers, high leverage, and other aggressive practices.

Put most simply, its downturn is the result of excess and loose standards that accumulated after decades of growth.

"After some stabilization in the first quarter China's property market is now facing another stress event," said Edward Chan, director, corporate ratings at S&PGR. "Country Garden is at risk of defaulting on more of its debt obligations mainly because of significantly deteriorating sales."

Mr. Chan said S&PGR sticks with its base case, which is for Chinese property sales to fall 3%-5% in 2023, or to renminbi (RMB) 12-13 trillion in the year. However, the odds are growing that sales will approach our bear-case level of about RMB 10-11 trillion in 2023-2024.

"Sales may tumble down a staircase instead of following an 'L-shape'," said Mr. Chan.

Not unsurprisingly, fully three-quarters of the webinar attendees said the Chinese banking sector would be hardest hit in Asia-Pacific by property risks.

The Chinese banking system's property loan exposures amounted to about 23% of total loans as of June 30, 2023. Mortgage loans most of this exposure, at about 17% of total loans, followed by property development loan at about 6%. Moreover, about half the property development loans are granted to affordable housing projects, which carry relatively lower credit risk.

Robert Xu, S&PGR's associate director, financial institutions ratings, said the risks to Chinese banks are manageable. The institutions and have sufficient capital buffer to absorb the potential losses from property-sector writedowns.

"Despite mortgage boycotts due to unfinished projects in some regions, the mortgage NPL ratio remains low at less than 0.5%," said Mr. Xu.

Banks are more likely to suffer nonpayment from property development loans. Under our base-case scenario, sector-wide NPL ratios for the segment would rise to about 4.7% over 2023-2024, before recovering to 4.0% in 2025.

Poll question 1


Muted Property Strains In North Asia

Japan has had a few rounds with property crunches over the decades. Lenders are equipped to handle current strains, thanks to their conservative capitalizations and diverse lending book.

Loan exposures to property sector is just 17% of total loans in Japan's banking sector, and 16% for three megabanks' domestic loans.

"Loan growth is higher than for other sectors because of financing demand," said Chizuru Tateno, director, financial services & international public finance ratings at S&PGR.

Further, there is not really much of a property downturn in Japan. For the country's three largest banks, just 0.3% of loans to the property sector are nonperforming, we estimate. That is better than that of the lenders' overall portfolio, where bad loans comprise 0.8% of the book.

Korea is experiencing some strains, but they are not significant. Some nonbank lenders have been hit by their exposure to real estate project finance loans. We estimate, for example, that 10% of property-project finance loans by securities firms were delinquent at the end of last year.

"The Korean economy is slowing and interest rates are elevated," said Daehyun Kim, director, financial services ratings at S&PGR. "There are asset-quality strains forming for banks, but they are manageable. Banks have been reducing their real estate project-financing exposure for years, and they have tightened their risk management."

Property Sector Risks In Perspective

While the full impact on banks from property sector risks in China is still a work in-progress, we already assess economic risks as they impact banks in China as high (see chart 1). This has a constraining impact on bank ratings. It also means that the property downturn and other risks may hit rated Chinese banks' asset quality metrics with no immediate hit on ratings.

More generally, there are a broad spread of property risks squeezing banks across Asia-Pacific (see poll question 2). This in part reflects the extreme diversity of banking systems across the region. Most economic and industry trends across the region are stable, however (see chart 1), taking into account all major risks with which banks must contend. Likewise, this indicates that banking jurisdictions have some scope to contend with heightened property risks in the context of current ratings and outlooks.

Chart 1


Southeast Asia: Pockets Of Property Stress

Conditions are more patchy across Southeast Asia. About 12% of the loans by Philippine banks are to real estate development and construction. Meanwhile, office vacancy rates in Manila were 18.8% in 2022. In Kuala Lumpur, that vacancy rate was 30.2%.

Even in rock-solid Singapore, household debt comprises about two-thirds of national GDP. In Thailand the level is above 90%.

"Commercial real estate exposure may be a risk. Kuala Lumpur vacancies are high, for example," said Nikita Anand, associate director, financial institutions ratings at S&PGR.

"With the rise of rates and inflation, households' debt service burden has increased. This risk is higher in Malaysia and Thailand where household leverage is high. Given the broadly stable employment conditions we think risks will be manageable for banks."

Vietnam is experiencing some strains. Banks' lending to the property sector accounts for about one-quarter of total loans. In the worse-case scenario, sector-wide NPLs would rise to about 4.5%, by our rough estimates.

Developers in the market are often highly leveraged, with a reliance on short-term debt. For example, No Va Land Investment Group's short-term debt is almost 3.5 times its cash levels.

"Vietnam authorities are very protective of the country's financial stability," said Sue Ong, associate, financial institutions ratings, S&PGR.

Poll question 2


A Quick Word On Australia

We restricted our comments here to housing, as this forms about 60% of loans from Australian banks. Double-digit growth rates for home prices suggests that demand-supply dynamics are offsetting rate effects on house prices.

"However, we expect that the rates dynamic has not fully played out and that the growth in house prices will slow in the second half of this year," said Sharad Jain, director, financial institutions & sovereign and international public finance ratings at S&PGR.

In the first half of 2024 homes prices should stay flat, in our view. Growth should resume afterward due to strong population growth, fewer new homes built, and limited increases in the cash rate.

"We expect Australian banks will weather stresses from rising interest rates really well," said Mr. Jain. "Yes, a segment of borrowers will struggle to service their mortgage loans due to higher interest rates and home prices and, yes, some people will risk losing their jobs, but we think this segment is small.

While the level of nonperforming mortgages is starting to rise, we assume it will remain low, particularly from a historical comparison. Credit losses will likely be low, at about 15 basis points of customer loans, which is about in line with the pre-COVID levels.

Property Risks Will Hit Banks' Asset Quality

Largely reflecting the wide dispersion of banking industry country risks across the region (see Chart 1) are the relatively wide variety of property-related risk factors that could hit banks' asset quality (see poll question 2). Unsurprisingly, webinar attendees identified high interest rates and operating costs as the factor most likely to hit banks' asset quality (35% of poll respondents). Other drivers also resonated with webinar attendees, however, including government intervention hitting financing conditions for developers (17% of poll respondents).

A Sample Of Questions Asked At The Webinar

What is banks' total exposure to Country Garden? Will the government step in?

Robert Xu:  Banks do not release information on individual borrowers, but we believe the exposures should be manageable. Firstly, only a small part of Country Garden's debts are bank loans. For the trust industry products, which are often distributed through banks, this is about RMB3 trillion in size. This is small relative to the RMB400 trillion in bank assets.

Secondly, the trust industry's property exposure has dropped significantly to just about 5% of total assets under management. This is from a peak of RMB1 trillion in the first quarter. The peak--in 2019--was RMB3 trillion.

We think the government is still highly supportive of the banking system, especially if financial stability is involved.

What is effect of mainland China's property market downturn on Hong Kong banks?

Robert Xu:  Really manageable. Hong Kong banks only lend to developers with stronger balance sheets. And even then their exposure is closely monitored by the Hong Kong Monetary Authority.

Although some Hong Kong banks have higher exposure to the mainland Chinese market and some higher-than-average credit costs, they have been cutting their exposure over the past few years. The incremental provisioning should be limited.

Why has the Chinese government been so tolerant of the property downturn? Why no bailouts?

Edward Chan:  The government is no longer relying on the property sector as a major growth driver. But it's still an important sector. Even if it generates RMB10 trillion in sales in 2024, which is our bear case, it's still one of the largest industries in China.

The government wants to be sure that real demand in China can be met, and that homebuyers receive completed units. Ensuring project completion is a top priority.

So the government is not ignoring the market downturn, but it is true the sector has not seen large stimulus.

Is there a sustainable business model for Chinese homebuilders?

Edward Chan:  Developers now will have to live with the reality that the market is much smaller, compared with the peak in 2021, when the market was RMB18 trillion [sales].

There is less need for firms to hold onto vast land banks, because land-price appreciation is not a given. Developers will hold leaner land banks and their leverage levels will be lower, compared with 2021.

Some developers have ramped up significant income from investment properties and from property management services. They will likely rely on these two nondevelopment segments for growth over the next two the three years.

How is the Indonesian property market faring?

Nikita Anand:  We expect sales to contract about 5% this year. Customer sentiment has turned cautious, amid higher inflation, which has eroded purchasing power. While we don't expect the government to unveil stimulative policies, down-payment policies have been relaxed since 2021, and mortgage rates are also generally lower than where they were before the pandemic.

Office vacancy rates are elevated in Jakarta, with a 28% vacancy rate in the central business district. This is in line with Manila and Kuala Lumpur. However, bank loans to real estate development and construction are quite small, about 6% [of total loans]. So risks are manageable.

Indonesian developers' access to U.S.-dollar bond markets has been challenging since 2020 following the restructuring of several developers at that time. Many had relied on dollar-bond funding over the prior decade. Since then, many are relying on funding from domestic banks, where costs are lower. Domestic banks are open to new loans, and that is underpinned by the robust economic conditions in Indonesia.

What is our view on the property market in India, and the likely implications for banks?

Deepali Seth-Chhabria, associate director, financial institution ratings:  Demand for residences is healthy, supported by favorable demographics, increasing urbanization, tax concessions by state governments, and good economic growth. There have been some pockets where we have seen prices rise sharply, hitting the affordability of some customers. But we are not seeing much impact on mortgages. Indian household leverage is on the lower side, and banks generally focus on prime customers, where risk is lower.

The increase in the prices of commercial real estate has generally not been higher than that of residential property. We are seeing headwinds and tailwinds. Headwinds are: weaker global growth, high inflation, and geopolitical risks. Tailwinds are: the resilient domestic economy, a rising return to offices, and some demand from global capacity centers, which are moving to Indian banks' exposure to Asian countries, including India. Commercial real estate exposures are low being less than 2.5% of the banking system loans.

Writer: Jasper Moiseiwitsch

Related Research

This report does not constitute a rating action.

S&P Global Ratings Australia Pty Ltd holds Australian financial services license number 337565 under the Corporations Act 2001. S&P Global Ratings' credit ratings and related research are not intended for and must not be distributed to any person in Australia other than a wholesale client (as defined in Chapter 7 of the Corporations Act).

Primary Credit Analyst:Gavin J Gunning, Melbourne + 61 3 9631 2092;
Secondary Contacts:Robert Xu, Hong Kong + 852 2532 8093;
Chizuru Tateno, Tokyo + 81 3 4550 8578;
Nikita Anand, Singapore + 65 6216 1050;
Sue Ong, Singapore 62161082;
Ivan Tan, Singapore + 65 6239 6335;
Sharad Jain, Melbourne + 61 3 9631 2077;
Edward Chan, CFA, FRM, Hong Kong + 852 2533 3539;
Daehyun Kim, CFA, Hong Kong + 852 2533 3508;
Deepali V Seth Chhabria, Mumbai + 912233424186;
Research Assistant:Priyal Shah, CFA, Mumbai

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