Evergrande Crisis is not a Lehman Brothers event that will bring down the market

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This aerial photo taken on September 17, 2021 shows the under-construction, mixed-use cultural tourism town of Evergrande in Taicang, Suzhou City, east China’s Jiangsu Province.

Vivian Lin / AFP via Getty Images

The financial turmoil at giant Chinese real estate company Evergrande is not the Asian analogue of the Lehman Brothers collapse, which sparked the financial crisis 13 years ago this month. This is because Beijing is likely to prevent any contagion from infecting its financial system to maintain the social and political stability which is its No.1 priority.

While the Evergrande crisis provided a ready-made excuse for Monday’s stock liquidation, its precarious financial situation was well known with $ 300 billion in liabilities and debt payments coming this week. Its stock price had slumped to near zero as its bonds were listed at around a quarter of face value, clear indications of the market‘s awareness of the storm brewing around the real estate company. heavily in debt.

But what happens to Evergrande in China is likely to stay mostly in China. Certainly, bondholders abroad as well as stockholders will suffer losses.

The enormous size of the assets and liabilities of the Chinese financial system overshadowed the American financial system in 2008 when Lehman went bankrupt, according to a report by China Beige Book, the authoritative council headed by Leland Miller. This “makes the seemingly frightening numbers associated with Evergrande paltry.”

Contagion in the Chinese system is almost impossible given that its financial system is “non-commercial”, the note continues. Chinese banks and many other institutions are primarily government entities and even non-state financial corporations and can be controlled in ways not seen in other countries. Bankruptcy is “a choice of the state” and frozen credit markets can be reopened as easily as the US Federal Reserve now opens a credit window, which it has done to an unprecedented degree to heal the pandemic rout in 2020.

Evergrande also won’t trigger what Alpine Macro calls a “Volcker moment,” recalling when the then Fed chairman in 1979-81 raised interest rates to unprecedented levels to crush the market. inflation. The adviser doubts Beijing will accept acute short-term economic hardship in the real estate sector in the interest of securing long-term benefits.

Indeed, avoiding a messy default that would deflate house prices is Beijing’s top priority, Lawrence Brainard, chair of the emerging markets panel at TS Lombard, said in a client webinar. Residential real estate is the biggest asset of China’s middle class, and a 15-20% drop in prices could trigger social unrest, he said.

Maintaining social stability is dear to the leadership of the Communist Party, especially with Key 20e party congress in just one year. Thus, he sees them act to “identify” the impact of Evergrande, in particular to protect the buyers of his apartments. Many of these buyers have prepaid the full price. This is different from Beijing’s crackdown on big tech companies like Alibaba (ticker: BABA) or Tencent (TCEHY), Brainard pointed out.

But the inevitable slowdown in the key real estate sector will be a drag on China’s economic growth. TS Lombard economist Rory Green predicts GDP growth of just 5.3% for next year. Anything below 6% previously was considered a recession for China.

A sharp slowdown in the world’s second-largest economy is likely to have spillover effects on the global economy. But the United States is a relatively closed economy and is generally less susceptible to external issues, according to BCA’s Daily Highlights client note.

In addition, the United States has minimal direct financial exposure to China and Hong Kong, he added. A review of the 2020 Form 10-K from major U.S. banks confirmed a relatively low percentage of assets there. For example, JP Morgan Chase (JPM) had 0.6% of its assets in China and 0.2% in Hong Kong. For


Bank of America

(BAC), these percentages were 0.5% and 0.2%, respectively.


Goldman Sachs

(GS) held 1.5% of the assets in China while


Morgan stanley

had 0.4%. The highest was


Citigroup

(C), with 1% of assets in China and 2.2% in Hong Kong.

“Even if the Evergrande crisis produced a credit event that spilled over into Asian emerging markets and dampened investor enthusiasm for risky assets more generally, US markets would benefit in a relative sense from the dollar’s status. as a defensive currency, the status of Treasuries as a predominantly risk-free asset and the low beta nature of the S&P 500, ”concluded BCA.

So, despite Monday’s drop, bad news for Evergrande could actually turn out to be good news for Wall Street.

Write to Randall W. Forsyth at [email protected]


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