China's New Home Price Growth Slows Further in May: Should You Be Concerned

Submitted by Gordon Johnson of Axiom Capital Research

Last night, China published May, 2017 new home pricing data for its 70 city index, which showed a continued slowing in growth (a key driver for commodity consumption inside China). More specifically, in May, new home prices across the China 70 city index advanced just 0.74% m/m, while annual growth, or the most important metric here, fell further to just +9.46% y/y (vs. +9.63% annual growth in April, and +10.51% annual growth December, 2016).

Exhibit 1: China New Home Price Growth YoY and MoM

Source: Source: National Bureau of Statistics (NBS), Axiom Capital Research.

Looking at the data in more granular detail, we note that the top 3 tiers of cities all displayed slowing annual growth, while the tier 4th-tier-and-over “crowd” remained resilient (overall, annual growth for China’s 70 city index fell -17bps in May).

Exhibit 2: Average Price Change of New Homes, by Tiered-Cities, %Y/Y

Source: National Bureau of Statistics (NBS), Axiom Capital Research.

Looking at the data from a different viewing glass, the total number of flat or falling markets rose to 14 in May from 12 in April, and just 8 in March.

Exhibit 3: New Home Prices 70-Cities M/M: Number of Cities Up vs. Down

Source: Source: National Bureau of Statistics (NBS), Axiom Capital Research.

Lastly, and probably the most important takeaway here, as shown below, historically, once year over year new home price growth in China begins to slow, this is typically a precursor to herculean iron ore port inventory destocking.

So what’s the likelihood that home prices in China continue to trend lower? Well, in our view, the fact that China’s yield curve is now inverted (the 1-year SHIBOR rate is now below the 1-month, 3-month, and 6-month SHIBOR rates), as well as the fact that banks, for the first time ever: (a) now charge more to lend amongst themselves than to corporations (evidenced by the fact that the 1-year SHIBOR rate of 4.43% is above the China 1-year Loan Prime rate of 4.30%), and (b) now charge more to lend among themselves than it costs them to take money from the PBoC (evidenced by the fact that the 1-year SHIBOR rate of 4.43% is above the China 1-year Benchmark Lending rate of 4.35%), implies credit tightening continues to plague a number of Chinese markets. Stated differently, evidenced by the deteriorating home price growth trend in China in May, credit tightening in China is beginning to show transfer effects (i.e., the rise in lending rates in China is now transferring from financial markets to the real economy).

Exhibit 4: China New Home Price Growth vs. Iron Ore Port Inventories

Source: National Bureau of Statistics (NBS), Shanghai SteelHome, Axiom Capital Research.

CONCLUSION: Should home price growth in China continue to slow, we foresee a prodigious Chinese iron ore port inventory destocking cycle taking hold. And, as any investment professional knows, when a commodity good is defined by record inventory levels (Chinese iron ore port stocks are just off all-time record highs), and a sharp destocking cycle takes form, this usually spells TROUBLE for the underlying commodity good (when you destock, you de facto bring organic demand to a virtual stop).

With the above as a backdrop, and also considering: (1) China’s 1-year SHIBOR rate is up nearly 140bps since China began its “stealth tightening” in 4Q16 (i.e., nearly double the 75bps in tightening the US Fed has done over the past several months), (2) China’s 1-year SHIBOR rate hasn’t declined since 4/14/17, and (3) year-to-date 2017, China’s 1-year SHIBOR rate has only fallen a total of 3 days, we see further weakening in China’s home sales price growth as likely. As a result, we also expect much weaker iron ore prices as an extensive destocking cycle takes hold, pushing organic demand for new ore produced materially lower. Resultantly, we continue to expect iron ore prices to exit 2017 in the low $40s, moving to the low $30s in 2018 (this is not Consensus at present, even amongst the iron ore “bears”).

Exhibit 5: China 12-Month SHIBOR Rate

Source: China Foreign Exchange Trade System, Axiom Capital Research.