With everyone focusing on the "Holy Grail" deal between Russia and China, and debating who got the upper hand in the 30 year price delivery arrangement, a just as notable story is that quietly overnight Goldman's China team just took China to the cleaners. In a flurry of reports covering everything from Chinese banks to property developers to the Chinese, Goldman effectively mirrored what Hugh Hendry said several years ago when he correctly concluded that China is drowning in overcapacity, and concluded that a "two year property downcycle is imminent."
From Goldman, who sees "Two-year property downcycle imminent; negative implications for banking/commodity/machinery"
With demand poised to slow given a tepid economic backdrop, weaker household affordability, rising mortgage rates and developer cash flow weakness, we believe current construction capacity of the domestic property industry may be excessive. We estimate an inventory adjustment cycle of two years for developers, driving 10%-15% price cuts in most cities with 15% volume contraction from 2013 levels in 2014E-15E. We also expect M&A activities to take place actively, favoring developers with strong balance sheet and cash flow discipline.
Can there be a prolonged downturn? Why yes, but there is hope:
Mortgage key to avoid prolonged downturn: We believe lower mortgage downpayment/rates, RRR cuts, and developers’ price cuts should help improve affordability and allow transaction volumes to hold at a level sufficient for the industry to restore supply-demand balance by end-2015E.
... but also risks:
Policy delay poses significant downside risks: We believe China has the flexibility (in terms of potential policies, e.g. RRR cut, mortgage easing, removal of L/D ratio, etc.) to prevent a severe property downturn. However, we are concerned about the timing of their implementation, if any, as possible delays could lead to further slowdown in the property sector and a fall in FAI.
Goldman's advice to clients: "Time to adopt a defensive stance"
Near-term, we prefer defensive stocks in the property/banking/commodity/machinery sectors, and would closely watch for downside/upside risks especially pertaining to policy changes.
And some excerpts from the Goldman Q&A:
Q. How long will the housing market downturn be for this time?