What is the impact of China’s property on Asian REITs?

The prospects for China's property sector have dimmed significantly this year, and the repercussions are being felt in the broader economy and markets.

What is the impact of China’s property troubles on Asian REITs?

The combination of China's Evergrande Group seeking Chapter 15 bankruptcy protection in the United States and Country Garden Holdings, China's largest property developer in terms of revenue, grappling with an escalating cash crisis has deepened China’s property crisis.

Partly influenced by the ongoing turbulence in the Chinese real estate sector, investor confidence in Asian REITs has waned, resulting in a widespread decline in share prices. As of August 25, 2023, year-to-date stock prices of REITs listed in Singapore and Hong Kong, which own commercial properties in China, have averaged a significant drop of 17.8% and 20.9%, respectively. This decline is exacerbated by the influx of speculative reports regarding asset seizures by creditors or the sale of assets at undervalued prices to bolster liquidity, further compounding the challenges faced in this situation.

Headwinds are bound to linger as the Chinese government fine-tuned its bailout measures for the real estate industry. The 16-point rescue package, implemented in late 2022, was aimed at relieving the ongoing liquidity and funding challenges faced by Chinese property developers. But it has yet to take substantial effect as the property sector is still struggling.

As the property sector constitutes over a quarter of China’s GDP, the ineffectiveness of the stimulus measures is causing significant anxiety, which has trickled into the broader Chinese economy.

DPUs, one of the most crucial factors that investors look at in Asian REITs with commercial properties in China, are suffering from the cautious sentiments of consumers and businesses. People are increasingly cautious with their spending habits, partly due to declining housing prices that have eroded their savings, a substantial portion of which is invested in real estate, and firms prioritise protecting their bottom line and minimise costs.

The employment opportunities once abundant in the housing sector, including construction, landscaping, and painting, are declining. Combining the above factors, implications were felt in rents and vacancy rates for the retail, office, and industrial sectors. DPUs will likely be pressured further as an ample supply of office and industrial spaces is expected in Tier-1 cities in the coming years.

How are investors reacting to Asian REITs in light of China's property woes?

Given China's property market challenges, investors are responding cautiously to Asian REITs. The concerns stemming from the slump in China's housing sector have prompted investors to re-evaluate their investment strategies. There is a sense of uncertainty surrounding the potential spillover effects of China's property issues on the broader Asian real estate market. As a result, investors are closely monitoring developments and adjusting their portfolios to mitigate risks associated with the volatility in China's property market. This cautious approach reflects the apprehension about how China's property woes might impact the performance of Asian REITs and the overall stability of the region's real estate investment landscape.

In the current context, the outlook for Asian REITs is of significant interest, as it begs the question of who stands to gain and who might face setbacks?

Asian REITs aligned with recent market trends demonstrate greater resilience to various challenges, extending beyond the issues stemming from China's troubled property sector.

To begin with, the occupier landscape is experiencing a prominent trend characterised by a regional flight-to-quality choice. There is more emphasis on ESG as sustainability is beyond just buildings with green credentials. Tenants and employees are seeking well-amenitised buildings that offer modern, high-quality spaces that are also conveniently accessible. One way REITs remain competitive is to undergo Asset Enhancement Initiatives (AEIs) that align with occupiers' evolving preferences.

Secondly, Asian REITs holding institutional-grade logistics facilities strategically positioned in prime areas and last-mile locations are poised to thrive, enjoying sustained demand even as e-commerce needs normalise. Further, major manufacturers are capitalising on the 'China +1’ strategy to expand into Southeast Asia and India, thereby diversifying the risks of concentrating all manufacturing activities in China only.

Thirdly, Asian REITs can consider diversifying their portfolio by incorporating niche property types, such as residential living sector assets, which offer defensive characteristics that leverage broader macro trends, including demographic and lifestyle shifts. For instance, the multi-family sector is gaining popularity as more people choose to rent rather than own a home, drawn by its flexibility and potential cost-savings advantages.

While we await for the dust to settle in China’s property market, it would be prudent for Asian REITs to explore divesting underperforming assets in China if favourable exit opportunities arise. They should also seek alternative prospects with ‘safe-haven’ qualities or consider temporary adjustments to their investment strategies to sustain their DPUs and share prices. However, some investors with a long-term perspective on China may find opportunities to acquire assets at advantageous prices amid the ongoing debt challenges.