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Prem Watsa's 9 Observations Why There Is A "Monstrous Real Estate Bubble In China Which Could Burst Anytime"

Tyler Durden's picture




 

Excerpted from Prem Watsa's Fairfax Financial Holdings investor letter,

There is a monstrous real estate and construction bubble in China, which could burst anytime. It almost did in 2011 but China increased its credit growth significantly since then.

In the last few years we have discussed the huge real estate bubble in China. In case you continue to be a skeptic, here are a few observations from Anne Stevenson Yang, an American who has been in China for over 20 years and is the founder of JCapital Research in Beijing:

1. China added 5.9 billion square metres of commercial buildings between 2008 and 2012 – the equivalent of more than 50 Manhattans – in just five years!

 

2. In 2012, China completed about 2 billion square metres of residential floor space – approximately 20 million units. For perspective, the U.S. at its peak built 2 million homes in a year.

 

3. At the end of 2013, China had about 6.6 billion square metres of new residential space under construction, around 60 million units.

 

4. Yinchuan, a city of 1.2 million people including the suburbs, has 30 million square metres of available apartments – roughly 300,000 units that could house 900,000 people. This is in addition to the delivered but unoccupied units. The city of Guiyang, capital of Guizhou Province, has roughly 5.5 million extra units for a city of 5 million.

 

5. In almost every city Anne has visited, pretty much the whole existing housing stock has been replicated and is empty.

 

6. Home ownership rates in China are estimated to be over 100% versus 65% in the U.S. Many cities report ownership over 200%. Tangshan, near Beijing, is one.

 

7. This real estate boom could only be financed through unrestrained credit growth. Since 2009, the Chinese banks have grown by the equivalent of the entire U.S. banking system or 15% of world GDP.

 

8. The real estate bubble has resulted in companies extensively borrowing and investing in real estate or lending on real estate in the shadow banking system. This is exactly what happened in Japan in the late 1980s.

 

9. And one observation of our own: Since 2009, the easing by the Federal Reserve combined with the explosive growth in China, backed by higher interest rates, has resulted in huge inflows (‘‘hot money’’) into China. The near unanimous view that the renminbi would strengthen has resulted in a massive carry trade where speculators have borrowed at low rates across the world and invested in China, almost always backed by real estate. The shadow banking system in China – i.e., assets not on the books of the major Chinese banks – is estimated by Bank of America Merrill Lynch to be approximately $4.7 trillion or 51% of Chinese GDP. Oddly enough, prior to the credit crisis, the U.S. had $4.5 trillion in asset-backed securities outstanding or approximately 31% of U.S. GDP. You know what happened then. When the flows reverse in China, watch out!

These observations remind me again of the following quote from Michael Lewis' essay in Vanity Fair, "When Irish Eyes are Crying", which I wrote to you about in our 2010 Annual Report: "Real estate bubbles never end with soft landings. A bubble is inflated by nothing firmer than expectations. The moment people cease to believe that house prices will rise forever, they will notice what a terrible long term investment real estate has become and flee the market, and the market will crash." Amen!

As they say, it is better to be wrong, wrong, wrong and then right than the other way around!

For those of you who believe a picture is worth a thousand words, please watch the recent BBC documentary "How China Fooled the World".

Brief clip here

Finally, in our 2007 Annual Report, we quoted Hyman Minsky, the father of the Financial Instability Hypothesis, who said that history shows that ‘‘stability causes instability’’. Prolonged periods of prosperity lead to leveraged financial structures that cause instability. This quote was in relation to the U.S. in 2007. It applies in spades to China in 2013!

Any credit event in China will have very significant ramifications for the world economy, as China is the world’s second largest economy and consumes 40% to 50% of most commodities from iron ore to copper.

 

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Sun, 03/09/2014 - 18:17 | 4528578 algol_dog
algol_dog's picture

It's all just play money anyway ... 

Sun, 03/09/2014 - 18:25 | 4528594 ZerOhead
ZerOhead's picture

Could be worse... it pops and it's 100% 'lights out' for 'The Land down under"...

Sun, 03/09/2014 - 18:32 | 4528622 knukles
knukles's picture

That bubble thingie picture looks just like the growth they took out of the boil they lanced on my scrotum last night.  That was some party...

Sun, 03/09/2014 - 19:04 | 4528724 williambanzai7
williambanzai7's picture

I think you should see a Dr about that ;-)

Sun, 03/09/2014 - 19:11 | 4528742 macholatte
macholatte's picture

The numbers are deceiving.....

For a little perspective:

Did You Know 3.0 (Officially updated for 2012) HD

https://www.youtube.com/watch?v=YmwwrGV_aiE

 

Sun, 03/09/2014 - 19:59 | 4528871 new game
new game's picture

maybe that is EXACTLY why half the people are "out of touch" :)

oh, thanks for that clip...

Sun, 03/09/2014 - 22:00 | 4529220 Stuck on Zero
Stuck on Zero's picture

The Chinese are so foolish.  They are building things that people can live in and use.  Here in America we build Aircraft Carriers, F35s, government office buildings, huge NSA data centers, and a huge intelligence apparatus.  We're sooo much smarter.

 

Mon, 03/10/2014 - 09:48 | 4530049 giggler321
giggler321's picture

You missed out the FEMA camp's, they gotta be worth a buck or 2?

Mon, 03/10/2014 - 01:31 | 4529594 Buck Johnson
Buck Johnson's picture

Exactly, but it won't stop there at Australia.  The rest of the world will be caught up and falling into a bad recession and/or a depression.

Sun, 03/09/2014 - 18:45 | 4528663 Jannn
Jannn's picture

Chinese Gold Demand 418 Tonnes YTD, West Confused http://www.ingoldwetrust.ch/chinese-gold-demand-418-mt-ytd-west-in-deny

Sun, 03/09/2014 - 18:52 | 4528687 prains
prains's picture

there is no ditch too small for china to push all the shit into. is there real counterparty risk in bing bong pow-land? don't think so..........

Sun, 03/09/2014 - 20:03 | 4528887 Carl Popper
Carl Popper's picture

Monetizing everyone's bad debt is likely the path they will go.  You are right about that.  However the ditch is finite.  At some point hyperinflation takes hold and confidence in the currency is lost.  

 

At that point a country is well and truly fucked. 

Sun, 03/09/2014 - 18:24 | 4528595 Rising Sun
Rising Sun's picture

communists fucking up again - the more things change, the more they stay the same?

Sun, 03/09/2014 - 18:31 | 4528618 A Lunatic
A Lunatic's picture

We're all communists now.........

Sun, 03/09/2014 - 18:26 | 4528602 Whiner
Whiner's picture

"Commissars! Call out the army and local police. The citizens are rioting. Convert to gold standard: yuan floats with gold price."

Sun, 03/09/2014 - 18:31 | 4528617 stormsailor
stormsailor's picture

meanwhile the /es opens 2.75 gap down

Sun, 03/09/2014 - 18:34 | 4528630 homiegot
homiegot's picture

The Chinese are hella confused about what supply and demand means. Should be an entertaning bloodbath.

Sun, 03/09/2014 - 18:49 | 4528677 ebworthen
ebworthen's picture

Yes, but in the meantime they have decimated U.S. production capability, and they have enough money now to rule the Pacific region mlitarily as well as economically.

Mission Accomplished.

Mon, 03/10/2014 - 04:52 | 4529703 Bazza McKenzie
Bazza McKenzie's picture

US politicans and bankers decimated US production capacity.  Sure China was eager to step into the breach, but the decision to allow this was wholly home grown in DC and NY.

Sun, 03/09/2014 - 19:05 | 4528729 williambanzai7
williambanzai7's picture

They already own most of Canada.

Sun, 03/09/2014 - 19:15 | 4528757 prains
prains's picture

the tar sands yes, the agricultural producing land and potash for fertilizer, the fresh water no, so "most" would be a qualitative idea not a quantitative one

Sun, 03/09/2014 - 19:12 | 4528750 AdvancingTime
AdvancingTime's picture

This is a big story and most Americans don't have a clue as they watch world markets work higher. Fast growth tends to mask flaws and weakness within a system, and China has been growing like a weed for years. To make things worse many of the investment decisions were driven by politics.

This has created massive overcapacity. Money has been poorly allocated and often shoveled into deep holes like ghost cities and bridges to nowhere. The article below looks at how and why China is now drowning in overcapacity and debt.

http://brucewilds.blogspot.com/2013/11/china-land-of-overcapacity-and-de...

Sun, 03/09/2014 - 19:40 | 4528823 shinobi-7
shinobi-7's picture

These numbers are just unbelievable unless you are on the Huangpu River looking at Pudong... Who has the money to work in these towers and enjoy these luxury apartments? It could well be that the answer is indeed: nobody!

Sun, 03/09/2014 - 20:02 | 4528884 syntaxterror
syntaxterror's picture

If the bubble blows, the Chinese can just follow Bernanke's Bubblenomics playbook. No biggie. They'll have a bigger bubble inflated in just a few, short years. It's all good.

Sun, 03/09/2014 - 23:18 | 4529418 garypaul
garypaul's picture

That's an excellent point. Actually it's fucking scary how big they could inflate it!!

Sun, 03/09/2014 - 20:46 | 4528948 Georgia_Boy
Georgia_Boy's picture

According to the stats I can look up right now, 200 percent total debt to GDP is not outlandishly high. As of spring 2011 the majority of 1st world countries (including the USA) had maybe 250 to 300 percent between government, household, and corporate, with some stragglers like the UK and Japan going 350 to 500. But going from 125 to 200 in five years certainly puts them on an unsustainable path. At some point, shoveling more money into the system fails to convince everyone to buy more property, and then the debt hangover begins. If they keep following the Japanese script, they dump their Canadian and Californian houses, foreign businesses, and commodities at a loss to raise cash to pay the debt. If this happens to gold, I'm using it to get in.

Sun, 03/09/2014 - 21:31 | 4529146 pitz
pitz's picture

Very little mainland Chinese ownership of Canadian housing.  So there's really not much to dump. 

Sun, 03/09/2014 - 20:26 | 4528965 TrustbutVerify
TrustbutVerify's picture

I would be interested to see speculation by the author of this article about ramification(s) for the rest of the world, in various other markets and sectors, outside of commodities, if China's economy popped.  The idea of problems within the commodity sector has oten been mentioned, but I never hear about the possible domino affect into other market areas.  

Sun, 03/09/2014 - 20:52 | 4529021 WhyWait
WhyWait's picture

Have you heard the story about the ancient Chinese curse: "May you live in interesting times!"?

This is certainy going to be interesting.  

The rulers of China certainly will have a plan for dealing with the collapse of their financial system.  I would give it just about zero chance of success, whatever it is.  China is riven by conflicts and contradictions from top to bottom, a cauldron of social unrest, and surrounded by vultures waiting to take advantage.  It seems stable and powerful enough now, but like the United States the next severe crisis will reveal the massive instability underneath that.

If anyone could wave a wand and help China fix their system, I'd say do it, because none of us are not going to get out of this undamaged.  But like the rest of the world China is a tragedy waiting to happen, with no way out.

All we can do is shed our illusions as fast as possible, try to stop our own rulers from making it worse, and take steps to try to salvage something from the wreckage of our own piece of the world.

Sun, 03/09/2014 - 20:56 | 4529038 SweetDoug
SweetDoug's picture

'

'

'

Hold!…

 

HO-OO-LD!…

 

HO-OO-OO-LL-LLL-D!…

 

When it all falls, I'm going to be there to cash in on the deleveraging, because of what this web site has brought to me!

 

Thanks Tyler!

 

SweetDoug

 

•J•
V-V

Sun, 03/09/2014 - 22:20 | 4529271 Bloah
Bloah's picture

full documentary here How China Fooled The World http://www.youtube.com/watch?v=YW3h4wv8_ko

 

Mon, 03/10/2014 - 00:42 | 4529555 jonjon831983
jonjon831983's picture

Thx.

I'll be watchin this tmr.

Sun, 03/09/2014 - 22:50 | 4529352 tony bonn
tony bonn's picture

"... A bubble is inflated by nothing firmer than expectations.."

bullshit you stupid lying fuck!!! a bubble is inflated by credit and money going to the hands of those who create demand, and when the money dries up, so does the bubble.

Sun, 03/09/2014 - 23:20 | 4529425 garypaul
garypaul's picture

Watsaaaap!!!

Mon, 03/10/2014 - 01:27 | 4529583 Dr. Bonzo
Dr. Bonzo's picture

Let's do this. Stop playing coy with the whole CHINA IS ABOUT TO COLLAPSE!!!! hysteria. Put a date to it. Year. Month. Day. Now stake your reputation on it. And if you get it wrong, go fuck off and stfu forever more. Burn your license to make financial prognistication and go compete with Somali taxi drivers hustling for customers on the frozen streets of St. Paul.

This is geting old.

 

 

Mon, 03/10/2014 - 01:41 | 4529601 ChargingHandle
ChargingHandle's picture

Catch 22. The construction jobs from mass development are needed to fill said inventory. More than anything China needs jobs....Much like the US.

Mon, 03/10/2014 - 01:48 | 4529604 Bugsquasher
Bugsquasher's picture

Don't worry the Chicoms will just tell the western banks to eat all the loans they made against those stockpiles of copper and steel. The shattered prices will then further crush non-Chinese production of raw materials and leave the chicoms free to produce massive amounts of military hardware from materials the paid absolutely nothing for.

Mon, 03/10/2014 - 02:04 | 4529605 Notarocketscientist
Notarocketscientist's picture

I will repost what this from another topic.

 

And ask the question:

 

WHY IN THE FUCK WOULD THE CHINESE GOVERNMENT AND PBOC ALLOW SUCH A SITUATION? DO THEY HAVE A DEATH WISH?

 

OR - DO THEY KNOW SOMETHING THAT WE AREN'T BEING TOLD?

 

Oil hit $147 in 2008 - it's never under $100 even in a shitty economy - because we are out of CHEAP OIL.

http://www.csmonitor.com/Environment/Energy-Voices/2013/0412/The-decline-of-the-world-s-major-oil-fields

High energy prices = less consumption because everything including the fuel in your tank costs more = layoffs = less tax revenue = government cutbacks, layoffs and debt increases = less consumption = more layoffs = less taxes =====  economic death spiral.

 

Here is what is different - Bernanke and other central bankers + the leaders of global governments know full well that we have reached THE END OF GROWTH.  They know we are FUCKED no matter what they do.

Like when Spain pillaged south american gold and lived large - when the gold ran out they were FUCKED.

The cheap oil is gone - nothing can replace it - NOTHING.

 

So what would you do if you KNEW that the world was fucked? 

Of course you'd do absolutely ANYTHING to delay the unavoidable collapse - anyting that would allow you to continue to enjoy your awesome life - because what comes after is going to make Mad Max look appealing.

 

You'd do shit that you would in the past never DREAMED of doing:

Print trillions?  Fuck it - we are doomed anyway

Ignore massive corruption in govt and banks?  Fuck it - we are doomed anyway

Lie about economic data? Fuck it - we are doomed anyway

Students using loans to pay rent and buy iphones?  Fuck it - we are doomed anyway

Healthy people on disability in droves? Fuck it - we are doomed anyway

And on and on and on......

 

Remember when Bernanke gave his farewell he said "I know a lot of people are pissed off at me - but when they realize at some point why I did what I did - they will understand"

 

Translate:  "We are fucked - there is nothing that we can do to fix or soft land this fucker - so we do ANYTHING - I repeat ANYTHING - that keeps the system running for another year - another month - another day - another - minute - another second - because when this fucker blows most if not all of us DIE'

 

Remember this - industrial farming requires gas and oil inputs for pesticides and fertilizers.  If they are not CHEAP industrial farming ends.   Industrial farmed soil is DEAD.  It would take 3+ years of intensive organic inputs to grow a crop in this DEAD SOIL. 

We have 7.2 billion people to feed - these starving hordes will eat everything that moves or grows - they will rape this fucker to death - including gorging on each other's entrails.

They will tear down every mother fucking tree that stands and use them for cooking and keeping warm

And what about the thousands of spent nuke fuel rod ponds - how to you maintain that shit when there is total chaos all around?   No cooling and the fuckers blow sky fucking high --- just one of these is many thousands times worse than fukushima and chernobyl combined

 

Like I said - WE ARE FUCKED. Bernanke knows it - Obama knows it - Merkel knows it - Yellen knows it - they all know it.

 

That is why THIS TIME IS DIFFERENT.  And that is why policy makers are engaging in seemingly suicidal/insance policies.

 

We are ALREADY DEAD.

 

Mon, 03/10/2014 - 02:24 | 4529621 Rock On Roger
Rock On Roger's picture

So true, the Spain reference.

We aren't dead, Just a little fucked up is all.

 

Stack On

 

Tue, 03/11/2014 - 07:47 | 4533828 Bogdog
Bogdog's picture

Roger that on the nuke reactors. If those reactors and spent fuel pools are not maintained amidst the chaos it's game over. Everything else can fall apart, but the supply chains that keep the facilities running properly and the people that work there have to be kept safe and operational. I don't see how that can happen with currency collapse everywhere.

Mon, 03/10/2014 - 02:47 | 4529632 Notarocketscientist
Notarocketscientist's picture

How not dead?   No cheap oil no industrial economy.  No jobs.  No food.  No nothing.

D-E-A-D.  DEAD.

 

 

Mon, 03/10/2014 - 04:29 | 4529689 laomei
laomei's picture

The shock and horror of most people owning multiple homes for different reasons? Gasp

Mon, 03/10/2014 - 08:22 | 4529832 Mediocritas
Mediocritas's picture

An important event to have noted is this:

http://www.bloomberg.com/news/2013-03-30/beijing-bans-single-person-hous...

All that did was create an overflow pressure in China. Cashed up Chinese wanting to buy real estate simply bid up foreign markets, exporting the Chinese RE bubble around the world. This is a contributor to the re-inflation of real estate markets being observed in Canada, Australia, UK, etc.

Locals in Western markets are being effected, forcing the people who actually live and work in the area out of the market, creating a supply crisis (particularly where cities have implemented urban boundary policies), and pushing locals out into "leapfrog" developments, thereby increasing commute times and inhibiting productivity. Meanwhile, plenty of prime central property sits completely vacant, not even rented out by foreign owners (eg: http://www.standard.co.uk/news/london/londons-3bn-ghost-mansions-foreign...).

At some point this creates a political crisis as foreign money is not enough to buy election results in democratic nations where the obvious misallocation of capital is causing economic pain. The pushback has already started, for example Canada completely scrapping its investment visa program (http://shanghaiist.com/2014/02/12/canada_cancels_investor_visa_progra.php) and calls for increased land tax in the UK (http://www.theguardian.com/society/2014/feb/03/richard-rogers-empty-home...).

So if/when China pops, then global RE bubbles pop with it. Bring it on I say.

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