Why A Boycott On The Other Side Of The World Is Your Problem Too

Why A Boycott On The Other Side Of The World Is Your Problem Too
Theodora Lee Joseph, CFA

over 1 year ago5 mins

  • Chinese consumers are boycotting mortgages on their unconstructed properties as China’s property problems go from bad to worse.

  • There’s a risk to the country’s banking sector and the country’s economic growth, but the global impact is expected to be more contained than the US mortgage crisis in 2008-9.

  • Commodity exporting countries, Asian economies, and sectors like luxury and autos are most likely to be negatively impacted by the crisis.

Chinese consumers are boycotting mortgages on their unconstructed properties as China’s property problems go from bad to worse.

There’s a risk to the country’s banking sector and the country’s economic growth, but the global impact is expected to be more contained than the US mortgage crisis in 2008-9.

Commodity exporting countries, Asian economies, and sectors like luxury and autos are most likely to be negatively impacted by the crisis.

It’s normal for Chinese homebuyers to pay in advance for a yet-to-be-built property, and the process has worked fine in the past. But the government’s recent clampdown on the real estate sector has brought construction all over the country to a halt, and it’s pushed homebuyers to boycott mortgage payments altogether until they see movement again. And that could end up causing a headache for the entire Chinese economy…

Why are these boycotts so risky?

They’ll hurt a huge driver of China’s economy.

The real estate sector – everything from property construction and property services – is estimated to account for more than a quarter of China’s economic output. And according to Pantheon Macroeconomics, 30-40% of bank loans are exposed to the property sector, while land sales account for 30-40% of local government revenue. So anything to disrupt the sector directly will have a serious impact on the country’s economy at large.

They’ll hurt another huge driver of China’s economy.

Banks are the next biggest losers from this saga, given the estimated 1.7 trillion yuan ($250 billion) worth of mortgages on their books that could be impacted by the boycotts. Zooming in a bit, mortgages at China Construction Bank Corp. – one of the world's largest banks – represent more than 20% of its total assets.

That might be why concerns about souring loans have already sent the Hang Seng Mainland Banks Index down 8% in the last week, with the potential for even more of a drop if the boycotts pick up momentum.

And another one…

Over 70% of China’s household wealth is tied up in real estate, which means a sharp decline in property prices could materially impact consumer spending. The potential drop in consumer confidence – especially at a time when global growth is slowing and inflation is showing no signs of abating – could be a serious weight around the Chinese economy’s neck.

They’ll hurt Chinese stocks.

The Chinese stock market has looked a lot more appealing than other major economies in the last couple of years, given that the country’s economy has been growing relatively quickly and hasn’t had excessive inflation to deal with. That might be why US and EMEA investors have put more money into Chinese stock exchange-traded funds than at any other point in the last decade:

Monthly flow in Chinese equity ETFs

But if the boycotts impact the wider economy and investors decide to abandon the country’s stock market, its stocks could crater.

They’ll hurt investor confidence.

The majority of China’s junk bonds are issued by property developers, and investors have been selling them off in their droves. That’s pushed their average yield up to 26%, which is making it more and more costly for property firms to refinance and raise the cash they need to keep operating. These boycotts are only going to make investors less confident in them, which could drive yields – and the difficulty of refinancing – higher still.

It’s not just junk bonds either: investors are selling off the bonds of even investment-grade builders, making it harder for them to access capital and intensifying their cash woes. That’s putting the sector and, by extension, the Chinese economy at even more risk.

So should we start panicking?

Not yet. In fact, there are a few reasons to be optimistic.

First, the Chinese government has an incentive to act quickly. Xi Jinping is expected to be handed a third term in power, which means his government will do whatever it can to keep the boycotts from doing too much damage. And it has plenty of options available to do just that, from allowing homebuyers to delay their mortgage payments (unlike now, when banks have to write off their debts as defaults) to letting local governments buy projects off developers. Whichever solution it opts for, China’s top-down command economy allows for decisions to be made and rolled out fast.

Second, Chinese consumers seem to be doing fine. While China’s household debt as a percentage of the country’s economy reached 62% in 2021, it’s still a lot lower than the 78% and 86% of the US and UK respectively. So while these boycotts are likely to hit spending, Chinese homeowners are in relatively a strong position that should serve the economy well.

Third, this is unlikely to be a Lehman-esque situation: if the crisis escalates, the contagion is likely to be limited to the country itself. After all, Chinese bank loans to local property developers aren’t as marketable or highly securitized as US banks’ were in 2008. What’s more, the government’s strict oversight has meant that foreign investors’ involvement in China’s property market or financial system is small.

How can you avoid getting hit?

It’s no sure thing that these boycotts will end up impacting Chinese economic growth in a meaningful way, but it’s no sure thing that they won’t. So you’d do well to steer clear of the stock market sectors most exposed to China’s economy: luxury companies and carmakers make a significant portion of their revenue in the country.

You might also want to be more selective about your commodity exposure: commodities are generally seen as a good inflation hedge, but a slowdown in China’s construction sector might just wipe some shine off the materials essential to the process: steel, iron ore, and copper. That said, precious metals like gold and silver should hold up.

Commodity exporting countries like Australia, Brazil, Argentina, and South Africa will probably see weakness in their currencies if China’s economic growth starts to slow on the back of these boycotts. Asian economies like Japan, South Korea, Taiwan, Singapore, and Vietnam are also dependent on the Chinese economy, and their stock markets are likely to underperform US and Western Europe.

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Disclaimer: These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment advisor.

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