Real Estate

China Real Estate Giant Country Garden Could Be Next To Go Bust

Evergrande, you have company.

Less than two weeks after China real estate conglomerate Evergrande Group filed for Chapter 15 bankruptcy protection in New York City, its competition, Country Garden, may be about to do the same.

Like Evergrande, Country Garden is about to become a household name for those working in the markets. It is China’s top real estate developer in terms of sales and is now poised to become the next casualty in China’s debt crisis. One of China’s best business news agencies, Caixin Global, said Country Garden was poised to default on its bond payments next month, barring a white knight or grace period extension.

Country Garden has three bonds set to mature or with a put option (the right to sell at a certain price booked by the option holder) beginning in September. They have a combined principal balance of 7.3 billion renminbi (or around $1 billion). Caixin said the company is looking to secure funds to pay bondholders.

One bond payment is due on Monday, which is right around the time its grace period ends on a missed August 7 payment. They are asking for more time. If they get an extension of the usual 30-day grace period they started in the first week of August, they either find the money to pay those lenders in that period, or the grace period ends again, and they go bust.

According to Bloomberg, BlackRock
BLK
has $358.5 million of Country Garden bonds as of Aug. 14. Allianz owned $301 million in Country Garden debt as recently as June. Fidelity, one of the biggest mutual fund companies targeting retirees and pension plans, is also an owner. As was emerging market asset manager Ashmore Group of London. They, too, have funds on offer for American investors, including retail investors. Ashmore said they had no comment when asked about their positions.

It is unclear if these asset managers still own Evergrande and Country Garden bonds at this time.

Country Garden stocks are part of the iShares MSCI Core Emerging Markets exchange-traded fund (EMG), among many other funds.

Country Garden’s chairwoman Yang Huiyan was once known as China’s richest woman. Forbes lists her family’s net worth at around $4.4 billion.

The company first failed to make interest payments of $22.5 million on dollar-denominated bonds on August 7.

Beijing does not seem willing to bail these guys out, according to Reuters.

Though this is anybody’s guess. As more real estate companies tumble, China’s government will likely be forced to take action. Adding Country Garden to the mix turns up the heat on the Chinese Communist Party (CCP) to make investors whole, or to lower credit costs which are already much lower than they are here.

Following a year of public health policy crushing the Chinese economy and manufacturing moving off-shore to avoid tariffs imposed by Washington, the CCP cannot afford to lose its goodwill with the locals. They will take to the streets if forced to.

“When the China Evergrande crisis unfolded, people feared that others would follow, but certainly not Country Garden. It was much less leveraged than Evergrande,” Alicia Garcia-Herrero, chief economist for Natixis, told German news publisher DW.

“Without a continual increase in (housing) prices, the whole real estate model is unsustainable and even a company like Country Garden can’t make it,” she told DW.

China is “very likely” to bail out Country Garden, Pushan Dutt, an economics professor at INSEAD business school in Singapore, told DW.

China’s real estate sector accounts for about 30% of the country’s gross domestic product. A real estate bubble implosion would have knock-on effects on China, forcing the CCP to pump money into the economy, something Xi Jinping remains reluctant to do.

China spent years wooing Western bond funds into its market, and Western bond lords pushed China to open that market. Asset managers from the U.S. have been big buyers of Chinese government and private bonds, priced in renminbi or dollars, for about 10 years. They were seen as investment-grade alternatives to the low U.S. and European bond yield.

The risks were known. China hawks have been hemming and hawing about a “China hard landing” at least since 2012. It all centered on real estate and provincial debt.

In 2021, Goldman Sachs began warning that Evergrande was teetering.

Kenneth Ho of Goldman Sachs research warned of this again in March 2022.

“More defaults will come. And if (credit) easing comes at a slower pace, more companies will default and it will be closer to our 31.6% default estimation,” he said. “It all hinges on policy outlook.”

Who Gets the Bailout?

The market is always salivating for stimulus and rate cuts. They do the same with China, wishing for rate cuts from the Central Bank, and Western-style money printing.

But Beijing might sit this out depending on how much economic pain the Chinese can take. Provincial governments have a lot of sway within the CCP in Beijing, though, and if major economic engines of the country are mired in unpayable debt obligations, Beijing might have no choice but to bail them out. This could include taking over the company and restructuring its debt. If they bail out bondholders, would it include Western investors, too? To avoid that, the CCP might reject helping money managers.

As far as the U.S. investor goes, should things get really bad and all of these China-focused funds and overweight China emerging market products take losses, will the Treasury Department make the case to bail out “the retail investor” and “retirees” by handing checks to BlackRock and others?

“They won’t do it,” thinks Albert Marko, a partner at Florida-based hedge fund Mavarinas Management Group. It’s not because they can’t or wouldn’t want to. “It’s politics. In an election year, everything will be put under the microscope.”

Congress has spent much of the summer going after China investments. The House Committee on the CCP doesn’t miss a hearing without discussing ways to restrict capital to China.

Washington has consistently warned businesses and investors of the increasing risks of doing business with China. Bailing out Wall Street for taking on that risk would be a terrible look for Washington.

China is arguably the most significant foreign policy issue on Capitol Hill and one most Americans understand and support.

Evergrande shares fell to near $0 on Monday. They are down 14% as of this writing. Vanguard, BlackRock, Schwab and KraneShares ETFs and mutual funds all own this dud.

Country Garden shares are also trading under $1, but are up 12.4% today. DFA Emerging Markets owns it. BlackRock’s iShares own it. They’ll probably be down 12.4% tomorrow.

Still, true believers exist.

“China will recover,” Devan Kaloo, global head of equities and emerging markets for abrdn, the new company name for the Standard Life/Aberdeen merger, said in a note on Monday. “Consumer confidence will increase as debt issues are resolved.”

Abrdn did not respond in time regarding their China holdings.