Sometimes it can feel as if no-one in property investing learned anything from the 2008/09 financial crisis
And so it came to pass that, when Wednesday arrived, Chinese property giant Evergrande was able to rummage around down the back of the sofa and pull enough together to pay the interest on one of its bonds. The news has been reported pretty much everywhere and you could almost sense the disappointment in some areas that the entire company has not yet imploded.
As Deutsche Welle reported on Wednesday morning, however, Evergrande said “it had agreed on a multimillion yuan deal with domestic bondholders. This should allow the conglomerate to avoid defaulting on an interest payment due on Thursday. The agreement has momentarily calmed financial market fears the sprawling firm could collapse and send shockwaves through the world’s second-biggest economy and beyond.”
More on this from Expert Investor: Is Evergrande teetering on the brink?
So we are not quite there yet – though maybe give it another day or so. By all accounts, Evergrande has another payment due this Thursday – this time for some $83.5bn (€71.2bn) in interest. If it manages to make that, it has a week before it owes $47.5m on another. It seems likely the hits will keep coming – like an unexpected car repair that is followed by an inflated electricity bill because your flatmate decided to install a Tesla coil in their room.
Evergrande’s problems are both self-inflicted and predictable. According to the BBC, “Evergrande expanded aggressively to become one of China’s biggest companies by borrowing more than $300bn. Last year, Beijing brought in new rules to control the amount owed by big real estate developers. The new measures led Evergrande to offer its properties at major discounts to ensure money was coming in to keep the business afloat. Now, it is struggling to meet the interest payments on its debts.”
There is no magic bullet – no chain of unforeseen circumstances that led us from then to now – when it comes to Evergrande. It is a company that borrowed too much, saw its circumstances change and is now struggling to deal with the consequences of its actions.
What then are the lessons to be learned from the affair? One simple lesson is never borrow more than you can pay back with your next payday; another is never gamble more than you can afford to lose. These ideas are both separate and connected – not to mention reminiscent of the time someone asked the boxer Tommy Morrison if he had learned his lessons too late. Ruefully, Morrison replied: “Isn’t that the only time you ever learn them?”
True as that may be, it can often feel as if no-one learned anything from the 2008/09 financial collapse that was also linked to speculating on the property market. If Evergrande does go under – as seems probable for reasons we will come to shortly – it is liable to take with it the savings and investments of regular folk. According to TIME, there are 1.5m people who have paid deposits to Evergrande on yet-to-be-built properties. Their individual losses will be the highest of all.
The main talk, though, has been of contagion. Aside from those who have invested individually in its property, there are the potential knock-on effects for all the other companies that do business with Evergrande. As the BBC also said in its report: “Firms including construction and design firms and materials suppliers are at risk of incurring major losses, which could force them into bankruptcy.”
The degree to which contagion would have much impact outside of China is up for debate. Gabriel Felbermayr, president at the Kiel Institute in Germany, was interviewed this week on Deutsche Welle by my former colleague Janelle Dumalaon, who asked whether an Evergrande collapse would reverberate around the world.
“Yes, of course it could have a global impact but that impact will probably be indirect,” replied Felbermayr. “We will probably see growth forecasts downgraded in China. China will not grow at the 8.3% or 8.5% it was forecast before the problems emerged. It will probably be lower than 8% now. That means the contribution to global growth out of China will be smaller.
“I don’t think we will see contagion in the financial markets spreading around the globe. This is not a Lehman Brothers moment. The Evergrande problem is basically a Chinese one and the foreign investors are not involved in this problem to a very high degree. There is an exposure of about $20bn to $25bn but this is a Chinese problem and not so much a problem of world scale.”
But here is an extra angle to consider about Evergrande. There is plenty of speculation that the Chinese government is to step in to secure the firm – according to The Independent, it has already injected $14bn into the banking system to assuage fears – even if Beijing is being coy on such matters.
As CNN Business reported this week, economists at Macquarie Group predicted on Tuesday that policymakers would step in, but were currently holding back, noting: “The government still wants to deter ‘excessive risk-taking’ from property developers like Evergrande, wrote Macquarie’s Larry Hu and Xinyu Ji, in a research note. But Beijing will also want to ‘maintain stability’ in the property sector, they added.”
A financial bust caused by overspeculation in property, fuelled by debt, that causes governments to step in and save the day? That sounds familiar. Hello, 2008. Been a while since we’ve seen you. How is it that, 12 years after the Great Recession, this is still happening? For all the talk of free markets, of reducing regulation, of having governments butt out of capitalism at its thriving and efficient best, why is an overextending company once more looking to a government as a backstop?
There would be a depressing inevitability to Evergrande being ‘saved’ – even if that were only in the manner of a hot air balloon where, instead of exploding all at once, the air will be let out gradually. But why not let such businesses fail? Let every overextended, debt-ridden company find themselves becoming the lesson others truly learn from. Let the banks gamble with their own money. Let the investors lose their shirts and not expect someone else to give them a jacket. There are limits to capitalism and it is time for a firm or two to realise that.
And, if a government wants to step in and help, start with the smallest investors. Rebuild an economy from the ground up. As Scott Galloway said recently on Real Time with Bill Maher (although Expert Investor has edited out the swearing): “When you have capitalism on the way up and you have socialism on the way down, that’s not capitalism or socialism. It is cronyism.
“It is the worst of all worlds. Capitalism is full-body contact, violence at a corporate level, so we can create prosperity and progress that rests on a bed of empathy. We have flipped a script here. We need to be more loving and empathetic with people and more harsh on companies.”