Headlines, not fundamentals, drive China real estate volatility

Alejandro Arevalo, Head of Emerging Market Debt, discusses recent volatility in the Chinese real estate sector. He also looks at other recent news that has been driving emerging market debt.
Alejandro Arevalo

Fund Manager - Emerging Markets Debt

Jupiter AM

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Recently, the Chinese real estate sector has been the main source of volatility in emerging markets (EM). This has been driven by headlines about property developer Evergrande, amid fears it cannot repay its debt of more than $100bn. Nothing has really changed fundamentally, but the newsflow has been dragging down the whole real estate sector.

After selling off sharply last month, we saw a bounce in the sector last week. Evergrande has no public bonds maturing this year, and the next big maturity isn’t until March 2022; while the situation could change, we think it will continue to muddle through. However, this is continuing to create uncertainty. Down the line, it is also likely to put pressure on smaller, more leveraged companies, which won’t be able to refinance.

Now, the Chinese government has announced that only qualified institutional investors will be able to buy onshore bonds. Previously, one of the main problems has been that private banking has been heavily involved in the Chinese bond market, and it’s mostly driven by headlines, which creates lots of volatility. If you have a scenario like Evergrande defaulting, the government will want to protect those investors as much as possible.

Elsewhere in EM, we saw Turkish bonds rally on the back of the central bank’s decision to keep interest rates on hold, at 19%. Inflation continues to be a concern, and we’ve seen a huge rebound in the economy after coming out of lockdown. Many investors, including us, were concerned that the central bank would start to cut interest rates, as President Erdogan decided to fire the previous central bank governor because he raised rates. It is encouraging to see the current governor keeping rates high, though there is some uncertainty about how long he will remain in his position if he continues to do so.

We also saw the takeover of Afghanistan by the Taliban, which will have tragic humanitarian consequences for the people of Afghanistan and the broader region. As a result, bonds issued by neighbouring countries have sold off in recent days, largely due to concerns that refugees fleeing to these countries will put strains on their finances. Pakistani bonds, in particular, took a large hit, though they recovered somewhat following news it would receive $2.8bn from the IMF. As Uzbekistan has a debt to GDP of around 30% and a strong growth rate, we believe it should be able to weather shocks. Exposure to the region in our strategy remains extremely limited, and we will continue to monitor the situation.

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Headlines, not fundamentals, drive China real estate volatility