So What's Going On?
We are a few months now into the Evergrande crisis in China, a potential "first domino" in a collapse in the Chinese financial sector. Evergrande is the second largest property developer in China by sales. During the Summer, the developer missed off-shore payments to its debt obligations. This week, China's Central Bank (kind of like the U.S. Federal Reserve), broke their silence on the crisis. They said "the risk of spill over in the Financial Sector is controllable". As of this week, the company has missed a trio of off-shore debt payments. The company has $300 Billion in liabilities, a default on which would reverberate across the world as their debt is held by many offshore investors. What's worse, the company has left investors in the dark about when and if these debts will be paid. Reports are coming in that Evergrande is trying to sell stakes in diversified ventures including electric vehicles.
Now, another Chinese developer, Fantasia Holdings, has also missed a debt payment and real estate firm Sinic cautioned that it might also see a default.
So Will This Really Spill Over into Rest of the Financial Sector
In my humble opinion, that's a very big maybe. The goal of a central bank isn't to be honest, the goal of a central bank is to stabilize the economy. And lies are just a part of their tool box (this is something the U.S. is familiar with, as the Federal Reserve wasn't completely upfront with the public during the 2008 financial crisis). When a government official comes out to say something like this, I am usually inclined to believe the opposite. The very fact they have to come out and say this is very worrisome. It also is worrisome that other Chinese developers are warning about defaults. The story that is being told is that Evergrande is a rogue company that is over-leveraged and poorly managed. That doesn't align with reality if multiple Chinese developers default.
Why I don't Invest in China, the Bigger Problems
So I've missed out on big gains in China. But that money was put into U.S. assets, property, and Bitcoin. So overall I don't feel like I missed out on China's explosive growth in the last two decades. China has a fundamental problem that it needs to overcome if it doesn't want to fall into a decades long stagnation.
China is an authoritarian state.
It may seem like this has nothing to do with Evergrande, but it has everything to do with this crisis. In the U.S., a single company may lie to the public about its Finances (check out Enron), but in China, you have corruption at scale at the highest levels of the Chinese government. Their grip on power is all about a growing economy, and they are incentivized to hide problems in the economy. The U.S. government doesn't have this incentive, not because its more benevolent (government is always bad fyi), but because companies are decentralized from the U.S. government and the IRS needs to know the true financials of these companies to tax them.
What's worse, China's authoritarian state stifles their innovation. China's tech industry is a copy of the U.S tech industry, with a big brain drain of Chinese technologists coming to the U.S. When this happens, China offsets this lack of innovation growth with project development. This is what causes China's infamous ghost cities, empty cities with empty apartment buildings. This over production creates jobs, but the waste from this process is now being shown in Evergrande's potential default.
Beware of China. Until they can reform their government they are a high risk investment for long term investors.
Sources
So What's Going On?
We are a few months now into the Evergrande crisis in China, a potential "first domino" in a collapse in the Chinese financial sector. Evergrande is the second largest property developer in China by sales. During the Summer, the developer missed off-shore payments to its debt obligations. This week, China's Central Bank (kind of like the U.S. Federal Reserve), broke their silence on the crisis. They said "the risk of spill over in the Financial Sector is controllable". As of this week, the company has missed a trio of off-shore debt payments. The company has $300 Billion in liabilities, a default on which would reverberate across the world as their debt is held by many offshore investors. What's worse, the company has left investors in the dark about when and if these debts will be paid. Reports are coming in that Evergrande is trying to sell stakes in diversified ventures including electric vehicles.
Now, another Chinese developer, Fantasia Holdings, has also missed a debt payment and real estate firm Sinic cautioned that it might also see a default.
So Will This Really Spill Over into Rest of the Financial Sector
In my humble opinion, that's a very big maybe. The goal of a central bank isn't to be honest, the goal of a central bank is to stabilize the economy. And lies are just a part of their tool box (this is something the U.S. is familiar with, as the Federal Reserve wasn't completely upfront with the public during the 2008 financial crisis). When a government official comes out to say something like this, I am usually inclined to believe the opposite. The very fact they have to come out and say this is very worrisome. It also is worrisome that other Chinese developers are warning about defaults. The story that is being told is that Evergrande is a rogue company that is over-leveraged and poorly managed. That doesn't align with reality if multiple Chinese developers default.
Why I don't Invest in China, the Bigger Problems
So I've missed out on big gains in China. But that money was put into U.S. assets, property, and Bitcoin. So overall I don't feel like I missed out on China's explosive growth in the last two decades. China has a fundamental problem that it needs to overcome if it doesn't want to fall into a decades long stagnation.
China is an authoritarian state.
It may seem like this has nothing to do with Evergrande, but it has everything to do with this crisis. In the U.S., a single company may lie to the public about its Finances (check out Enron), but in China, you have corruption at scale at the highest levels of the Chinese government. Their grip on power is all about a growing economy, and they are incentivized to hide problems in the economy. The U.S. government doesn't have this incentive, not because its more benevolent (government is always bad fyi), but because companies are decentralized from the U.S. government and the IRS needs to know the true financials of these companies to tax them.
What's worse, China's authoritarian state stifles their innovation. China's tech industry is a copy of the U.S tech industry, with a big brain drain of Chinese technologists coming to the U.S. When this happens, China offsets this lack of innovation growth with project development. This is what causes China's infamous ghost cities, empty cities with empty apartment buildings. This over production creates jobs, but the waste from this process is now being shown in Evergrande's potential default.
Beware of China. Until they can reform their government they are a high risk investment for long term investors.
Sources
I/we have no positions in any asset mentioned, and no plans to initiate any positions for the next 7 days