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Private equity real estate pilot programme to boost housing market in China

26 April 2023

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China’s new private equity real estate pilot programme is designed to boost investment in the property sector and attract increased foreign investment, say Li Shuting, senior manager, and Joanne Zhou, assistant manager, Fund Services.

China has introduced a private equity real estate (PERE) pilot programme in a bid to revive its flagging property market.

The pilot programme, announced by the Securities Regulatory Commission (CSRC) last month, is intended to boost private investment in the Chinese real estate market and open the door to foreign investors. The aim is to improve liquidity and reduce property developers’ debt ratios.

The primary target of the programme, which opened for applications on 1 March 2023, is the troubled housing market in China. The PERE pilot programme facilitates investment in residential housing, including affordable homes, market-oriented rental housing, and the secondary market for residential housing—as well as commercial real estate and infrastructure projects.

China’s approach to Covid and slow economic growth impacted on the local real estate market . The much-publicised debt crisis at residential developer China Evergrande Group was emblematic of wider problems in the residential market, with developers across the sector facing a cash-flow shortage.

The Three Arrows strategy to stabilise the housing market in China

In 2022, capital raised by Chinese private property companies plummeted to a seven-year low of RMB 227.1 billion (USD 32 billion), according to China Real Estate Information Corp. As a result, homebuilding has slowed and property sales have plunged.

This housing slump followed a boom attempted to control with measures to restrict investment in residential property, including a 2017 ban on private equity investment in 16 mainland cities.

In 2019, in the wake of tighter regulations, the market began to stabilise. The Central Committee of the Chinese Communist Party promoted a policy of “housing for living, not for speculation” but liquidity subsequently dried up.

The PERE pilot programme is part of a “Three Arrows” strategy to promote long-term stability in the market by injecting new sources of capital into specific segments. Other measures are loans and bond financing for property developers.

The CSRC has imposed a number of restrictions within the new PERE pilot programme. General partners and limited partners cannot be real estate development companies or related entities. GPs must have successfully exited more than three real estate private equity investment projects, and funds must raise at least RMB 30 million (USD 4.4 million) in the first round of financing – higher than the RMB 20 million threshold required for private equity funds in general.

The pilot programme is intended to attract large institutional investors, such as insurance companies, into large-scale areas of the Chinese real estate market that have longer maturity. Each institutional investor must contribute no less than RMB 10 million (USD 1.45 million) in the first round to PERE funds in the pilot programme. Participation by individual investors is restricted to 20% of the total contributed capital.

Favourable conditions for the PERE pilot programme

The CSRC has also loosened some rules for the real estate private funds in the pilot programme. The eight-to-two equity-to-debt ratio defined in 2020 has been relaxed and requirements are now treated on a case-by-case basis.

Funds offering loans or guarantees to companies in which they are invested must hold a stake of at least 75% in those companies. This can be lowered to 51% for funds with solely institutional investors—and only where the invested company provides a guarantee to achieve asset control. Funds with individual investors must contribute no less than a third of the total invested capital, while this ratio can be determined by contracts for funds with only institutional investors.

When it comes to leverage, the total assets of funds in the pilot scheme should not exceed 200% of net assets. This clarifies previous guidance from the regulator.

The CSRC is encouraging foreign investors to participate in the new PERE pilot programme through the Qualified Foreign Limited Partnership (QFLP). The QFLP is not subject to penetration verification as long as all investors are foreign based. Moreover, QFLPs can now be categorised as institutional investors rather than natural individuals.

By introducing the PERE pilot programme, China hopes to diversify the investor base for developers..

The market for China real estate investment trusts (C-REITs) has surged since June 2021, raising capital of more than RMB 75 billion (USD 15 billion).

China first introduced REITs in 2015 with “pre-REITs”. C-REITS followed in 2021, and in 2022 their investment scope was broadened. In August 2022, three new C-REITs based on affordable rental properties were more than 100 times oversubscribed. This helped to mitigate the debt crisis in the affordable rental market.

The PERE pilot programme complements that initiative. It offers a private-market alternative to REITS for institutions and high-net-worth individuals who can sacrifice liquidity in the hope of a higher return.

Economic rebound through real estate investment in China

How attractive the proposition will prove for foreign capital remains to be seen. In the fourth quarter of 2022, overseas investors committed less than half the amount they had invested in Chinese real estate in the first quarter of 2021, according to MSCI Real Assets.

Real estate fund managers report a split among international investors on China. Rising geopolitical tensions with the US mean some investors are choosing to exclude the country from their APAC real estate investment portfolios or to diversify away from it.

Overall, however, global capital is returning to China as the economy rebounds post-Covid. In January, foreign investors committed a record RMB 141 billion (USD 21 billion) to mainland Chinese equities through Hong Kong’s Stock Connect programme.

If the new PERE pilot programme functions as the Chinese authorities expect, it is likely to find a permanent place in the roster of investment vehicles in China and will become part of a burgeoning private real estate market in APAC.

Data from shows that fundraising in APAC reached a record high of USD 16.6 billion in the first half of 2022, while global private real estate fundraising was down 14% on the previous year.

Alongside the developed markets of Japan, South Korea, Australia, and New Zealand, private market investors are targeting emerging economies such as Vietnam and the Philippines.

Now they can put China in their sights, too.

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