China′s home prices continue to skyrocket, though in recent months growth has slowed due to tighter restraints by city governments.

The House Price Index of 100 Chinese cities of the China Index Academy rose 18.7% y-o-y in November 2016 to an average of CNY 12,938 (US$ 1,871.34) per square metre (sq. m.), a slight increase from 18.21% y-o-y growth the previous month. Prices rose in 75 of the 100 cities, y-o-y.

Yet the month-on-month (m-o-m) figures suggest a slowdown. The Index had a m-o-m price hike of 0.88% in November 2016, a slowdown from October′s m-o-m price increase of 1.65%.

In Shanghai, the second-hand house price index rose by 27.82% y-o-y (24.66% inflation-adjusted) in October 2016,, a sharp rise from the 8.31% (6.99% inflation-adjusted) y-o-y price increase in October last year, based on figures fromEhomeday.  However prices were up by only 0.88% during the latest month, to CNY 45,847 (US$ 6,631.26) per sq. m.

Colliers International produced similar figures for Shanghai:

• New houses saw an average sales price increase of 27.8% y-o-y to CNY 40,912 (US$ 5,917.46) per sq. m. in Q3 2016, according to Colliers. The area between the middle ring road and the outer ring road saw the biggest increase in house prices.
• Villa sale prices slowed by 0.8% y-o-y to CNY 34,426 (US$ 4,979.34) per sq. m. It was down by 2.6% on a quarterly basis.
• Apartment sale prices rose by 34.1% y-o-y to CNY 42,435 (US$ 6,137.75) per sq. m., also up by 19.4% q-o-q.

Shanghai′s high-end market has an average sales price of CNY 69,401 (US$ 10,038.08) per sq. m., up by 15.9% from a year earlier. The city′s low- to mid-end properties have an average sales price of CNY 25,637 (US$ 3,708.11) per sq. m., 12.9% higher than the previous year, according to Colliers.

In Beijing, the average price of new commodity houses was up by 23.5% during the year to August 2016, according to the National Bureau of Statistics of China.

In Guangzhou, the average sale price of new houses in nine districts rose by 15.9% y-o-y to CNY 20,716 (US$ 2,996.34) per sq. m., according to the Guangzhou Municipal Land Resources and Housing Administrative Bureau. The average sales price of houses in the urban districts rose by 11.6% y-o-y to CNY 26,883 (US$ 3,888.33) per sq. m., while in suburban districts, prices were up by 10.6% y-o-y to an average of CNY 14,189 (US$ 2,052.28) per sq. m.

In Shenzhen, the average sales price of new houses was at CNY 58,660 (US$ 8,484.52) per sq. m., a 65% increase during the year to Q3 2016, according toColliers International. Although prices sharply rose on an annual basis, the average price was actually up by only 3.9% q-o-q during the latest quarter.

Rules on who can purchase property

There is no private ownership of land in China. One can only obtain rights to use land. A land lease of up to 70 years is usually granted for residential purposes.

Foreigners who have worked or studied in China for at least a year are allowed to buy a home. Foreigners go through supervision procedures which last about a week, before they are allowed to buy properties in designated areas.

Foreigners cannot be landlords. Property ownership for investment by foreign companies and individuals is prohibited. Chinese living overseas and residents of Hong Kong and Macau are exempt from these restrictions.  

Limited supply of luxury housing

There has been a lull in high-end completions, because reducing luxury housing inventories has been a focus of government and developers′ efforts in recent years on.

In Beijing, there were no new completions in the luxury apartment and serviced apartment markets in Q3 2016, according to Colliers International. The housing stock of these market segments remained at 22,897 units for luxury apartments and 7,004 units for serviced apartments.

In the villa segment, the total stock increased by 2.4% q-o-q to around 19,225 units, with five development projects entering the market, including the One Sino Manor and Royal Springvilla and N°7 Villa.

Due to the limited supply of residential land in Beijing, there were only seven transactions of residential land during the first nine months of 2016, according to Colliers.

Around 1,000 villa units and 1,700 luxury apartment units are expected to be completed in Q4 2016. The expected completion of the Oakwood Residence Damei Beijing in the Lufthansa & Chaoyang Park submarket before end of 2016 will add to Beijing′s supply of serviced apartments.

In Shanghai, the new supply of new residential properties was around 12,275 units (1.5 million sq. m.) in Q3 2016, down by 53% from the previous quarter and by 56.4% from the same quarter last year, according to Colliers International. The supply of villas declined by 52.3% y-o-y to 815 units (178,700 sq. m.) in Q3 2016.

In Q3 2016, Jiading District had the highest amount of new housing supply in Shanghai with 1,912 units (219,100 sq. m.). Nanhui came second with 1,810 units (201,600 sq. m.), followed by Songjiang with 1,559 units (200,700 sq. m.)

Rising high-end and luxury market sales

Despite the slowdown in supply, demand for luxury apartments and high-end villas remains strong.

In Beijing sales of luxury apartments was up by 39% from the previous quarter to 939 units, while high-end villa sales were up by 17% q-o-q to 634 units in Q3 2016, according to Jones Lang LaSalle(JLL).

The volume of residential property transactions was up by 5% from the previous quarter in Q3 2016, according to Colliers International.

In Shanghai during the same quarter, high-end sales increased by 70% q-o-q, while mass market sales rose by 32.7% q-o-q, while. According to JLL, the rumour of tighter housing policy in September drove a sales surge in August, but sales declined in September when the rumour proved unfounded.  Home sales rose by 15.1% q-o-q to 3.7 million sq. m. in Q3 2016, according to Colliers.

"The newly-issued regulations on the housing market aim to increase the effective new home supply and rein in soaring housing prices. As a result, it is anticipated that transaction volumes will decline and average price growth will slow down in the near future," according to Jack Xiong of Savills Research and Consultancy.

Too much government intervention?

Arguably, one of the Chinese housing market′s central problems has been excessive government intervention, greatly exaggerating the housing cycle. 

Repeatedly, the government has stepped in to avoid over-heating - then stepped in again, to avoid the resulting slump.  So China′s housing market see-saws between one extreme and the other, within the general context of an over-valued and over-stocked housing market.

Recent property cycles illustrate this. 

Property prices in China rose rapidly from 2000 to 2008, fuelled by low interest rates and cheap credit. There was a 117% rise in the price index for second-hand homes in Shanghai (82% inflation-adjusted) from Q1 2003 to Q2 2008, according to Ehomeday. However during the global crisis, China′s housing market slowed sharply from end-2008 to mid-2009.

In November 2008 the government introduced a CNY4 trillion (US$585 billion) post-financial crisis stimulus package.  Developers were now easily able obtain loans, with lower capital requirements.

Buyers too took advantage, with looser lending conditions and lower interest rates.  The result? Existing house prices surged by 19.82% in Beijing during 2013 (16.93% inflation-adjusted), and rose by 12.85% in Shanghai (10.13% inflation-adjusted).

Too much!  The boom of led to uninhabited so-called ghost towns. The ratio of residential floor space under construction to floor space sold also rose sharply. In 2008, for every one sq. m. of space sold, 3.9 sq. m. was under construction. The ratio rose to a record high of around 4.4 sq. m. in 2012, according to China economist Patrick Chovanec.

In March 2013 the State Council introduced measures to reassert control.  Major cities were required to publish an annual housing price control target. Cities with overheating housing markets were required to increase their supply of commodity housing, and their land supply. Where dwelling price rises exceeded city price control targets, People's Bank of China (PBOC) branches were asked to increase down-payment requirements. Tighter mortgage restrictions on second home purchases were introduced, and buyers without a local registration barred from buying more than one property. Banks were forbidden to give loans to developers hoarding land.  Local governments were required to boost low-income housing production. The government also continued to reform property taxes.

In October 2013 Beijing introduced a new scheme to house middle-income earners, through dwellings costing 30% less than normal residential dwellings.

In November 2013, Shanghai′s municipal government tightened by increasing minimum down payments for second home purchases from 60% to 70%. Non-Shanghai residents also faced tighter qualifications to purchase homes in Shanghai.

Due to these tightening measures, the housing market slowed sharply. During 2014 house prices dropped in Beijing and Shanghai by 4.16% (-5.67% inflation-adjusted) and 1.33% (-2.89% inflation-adjusted), respectively.

So in 2014 the government again went into reverse. In September 2014 the central bank loosened mortgage restrictions, giving homeowners with paid-off mortgages wanting a second property the same terms as first-time buyers, including a down payment minimum of 30% (previous minimum: 60%). In October the central bank cut its benchmark one-year lending rate by 25 basis points to 4.35%. Mortgage interest rates for first-home purchases fell to a new record low. The government also announced a plan to purchase unsold residential properties, and convert them into low-cost housing, in order to reduce inventory levels.  In 2015, the government reduced the minimum downpayment for second-home buyers three time, and in March 2015, property sellers were exempted from paying transaction tax if they had owned the property for at least two years.

in late 2016, as a result of the subsequent boom, local governments began implementing tightening measures.

"Policy makers have so far avoided applying a blanket nationwide property tightening program, likely for fear of overdoing policy cooling to trigger a sudden property sentiment reversal or sharp sales deceleration. As such, property policy tightening remains differentiated; targeting areas where the sales/price/leverage rally has been most concentrated. […] On balance, we think these measures will have a moderate cooling effect in the coming months," said the Head of China Economic Research at UBS, Tao Wang.

Since October 2016, borrowing became more difficult

Loans to households, which are mostly housing mortgage loans, account for around 46% of total loans, an increase from its 39% share during the first half of 2016. The rise of mortgage lending could be attributed to the series of measuresintroduced by the government during early 2016 encouraging property purchases, lower taxes on home sales, the reduction of mortgage down payments, and restricting land sales for new development projects

However, the recent ballooning of mortgage debt poses a threat to the banking system. DBS Vickers Hong Kong Ltd predicted that a 30% decline in house prices could turn 4% of the total loans or around CNY 4.1 trillion (US$ 615 billion) into bad debts. The International Monetary Fund (IMF) has warned that the country′s credit has been growing "very fast" by global standards.

In response to the IMF′s call, Zhou Xiaochuan, the People's Bank of China (PBOC) governor, stated that China will try to control credit growth. "It's a kind of fine-tuning of policy priorities," according to Fudan University economics professor Li Weisen. "China needs to improve control over bank credit, and home mortgage loans are expected to slow from October on."

In October 2016, the PBOC demanded executives of 17 banks to intensify efforts in restraining home loans, according to a report from Caixin Online. The meeting included officials from China′s "Big Five" banks: the Bank of China, the Agricultural Bank of China, China Construction Bank, the Industrial and Commercial Bank of China, and the Bank of Communications.

Tianjin City, the country′s major port city and was among 15 cities that adopted tightening measures in October 2016, and announced of having even stricter measures in November. In particular, the Tianjin branch of the central bank has increassed the down payment ratio for first-time buyers to 30%, from an earlier ratio of 20%. Those with unpaid mortgages planning to purchase a second home have need a down payment of 40%.

Shanghai also stated in a Weibo post that it will implement tighter mortgage loan policies beginning November 29,2016. Other cities such as Wuhan and Shenzhen also introduced mortgage controls, but not as tight as Tianjin.

The mortgage controls seem to be working as the banks reportedly reduced their lending in October 2016 to around half of the previous month′s level. Housing mortgages fell from a record high of CNY 574.1 billion (US$ 83.44 billion) in September to around CNY 489.1 billion (US$ 71.09 billion) in October 2016. "The fall of housing mortgages is pretty small in October as banks have not responded quickly to the central bank's instructions," according to China Fortune Securities chief economist Zhang Jun. Zhang predicts that further decline of mortgage loans will be felt in November and December.

The People's Bank of China's (PBOC) key interest rate has remained steady at around 4.35% since October 2015, the central bank′s sixth rate cut since November 2014.

Small mortgage market

Despite mortgages being a large share of loans, the mortgage market in China is relatively small. In 2015, the country′s home mortgage loans was at 18.8% of GDP, up from 10.3% of GDP in 2006. The amount of the outstanding housing mortgages in 2015 was up by 23.9% to CNY 13.1 trillion (US$ 1.91 trillion).

In Q1 2016, the total amount of outstanding housing mortgage loans rose by 26.5% y-o-y to CNY 14.1 trillion (US$ 2.05 trillion), according to the People's Bank of China (PBOC).  

Some factors hindering mortgage market growth:

• Mortgage lending is dominated by state-owned commercial banks.
• Banks prefer to offer loans for new housing. The mortgage market for old housing is undeveloped.
• A mismatch between property registration and mortgage policies.
• Banks lean on real estate developers when buyers default on loans.

The mortgage market is led by four major state-owned commercial banks namely: Bank of China, China Agriculture Bank, China Construction Bank and Industrial and Commercial Bank of China.

Yields are very low, rents are stable

Rental yields in Beijing and Shanghai are, we believe, extremely low (though we have not been able  to collect recent figures).  This is partly because homes are used as investments and "stores of value", and so there is an imbalance between homes available and renters.

The rental market in China is heavily regulated, and the system favours the landlord. The landlord may get large payments for breaches of contract committed by the tenant. Although major cities have no rent controls, smaller cities may have.

In Beijing, the average rent of luxury apartments rose by only 0.3% q-o-q in Q3 2016, to CNY 136.7 (US$ 19.88) per square metre (sq. m.) per month, according to Colliers International. During the same quarter, monthly rents of villas in the capital city also had a meagre increase of 0.2% q-o-q to CNY 84.4 (US$ 12.28) per sq. m. The serviced apartment market had its fourth consecutive quarter of rent increase in Q3 2016, as its average monthly rent rose by 0.3% q-o-q to CNY 227.1 (US$ 33.03) per sq. m. The recent rent increases were backed by sustained leasing demand, according to Colliers.

In Guangzhou, the average rent of serviced apartments fell by 0.3% q-o-q to CNY 208 (US$ 30.25) per sq. m. per month in Q3 2016.

In Shenzhen, the average rent of serviced apartments increased by 0.6% q-o-q to CNY 250.7 (US$ 36.46) per sq. m. per month in Q3 2016.

China′s economy remains strong; rising concerns on property prices and private debt

In Q3 2016, China′s GDP expanded by 6.7% y-o-y, the same as the level of y-o-y growth recorded in the past two quarters. The country′s economic growth during the third quarter was supported by a 10.5% y-o-y acceleration of retail sales and a 6.1% y-o-y rise in industrial output. Fixed-asset investment rose by 8.2% during the first nine months of 2016. Most investment gains came from state firms, increasing by 21.1%, while private investment remained weak, expanding by only 2.5% in the first nine months of 2016.

"Despite continued disappointing growth in the rest of the world economy, China's economy is on track to achieve the government's indicative growth targets for the year," according to Bert Hofman, World Bank director for China, Mongolia and Korea.

From an average growth rate of 12.7% annually from 2005 to 2007, China has experienced a slowdown in recent years, with an average annual real GDP growth rate of 9.6% from 2008 to 2011.

In November 2013 China unveiled a 60-point reform plan to pave the way for China's transition to consumption-driven growth.  The plan includes boosting China's urban population by easing the one-child policy.

Between June and August 2015, China's stock market went into a meltdown, wiping out hundreds of billions of dollars in market capitalization. Triggering the crash was a relaxing of margin trades and concern over lofty valuations.

In August 11, 2015, PBOC devalued the yuan by 1.87% against the U.S. dollar, in a bid to boost the competitiveness of Chinese exports. The following day, the central bank devalued the yuan by another 1.62% against the U.S. dollar. Aside from shifting its market mechanism for setting the exchange rate in August 2015, the country also introduced a new exchange rate index valuing yuan against 13 trade-weighted currencies in December 2015.  

While the country′s mortgage market remains small (almost 19% of GDP in 2015), and its household debt ratio (around 67.5% in Q3 2016) is still lower than advanced economies such as the US (almost 80% of GDP) and Australia (125% of GDP), analysts raised concerns regarding the rapid pace of household debt increase amidst the soaring property prices. There are fears that a sudden decline in house prices might turn a lot of new loans into bad debts, causing a negative spillover to the banking system and the economy at large.

"The recent recovery is ultimately on borrowed time, given that it has been driven in large part by faster credit growth and a property market boom," according to Capital Economics′ Julian Evans-Pritchard.

According to the government think-tank Chinese Academy of Social Sciences (CASS), China′s total debt has reached CNY 168.48 trillion (US$ 25 trillion) or at around 249% of GDP. The country′s non-financial corporate sector has a debt-to-GDP ratio of 156%, which could prompt "systematic risks" in China′s economy, according to CASS senior researcher Li Yang. "The gravity of China's non-financial corporate debt is that if problems occur with it, China's financial system will have problems immediately," Li stated.

China′s annual consumer inflation rose by 2.3% in November 2016, up from 2.1% in October, based on the figures from the National Bureau of Statistics of China. Urban unemployment slightly eased to 4.04% in Q3 2016, from 4.05% in the second quarter. During the first nine months of 2016, around 10.67 million new jobs were created in China, exceeding the annual target of 10 million, according to the Ministry of Human Resources and Social Security.