Tighter domestic lending, rising cost make overseas bond issuances popular

China's property developers are likely to continue to borrow significantly from overseas markets as China's lending market is tight and the cost of borrowing is rising.

In the first two weeks of this month, a handful of property developers have announced they will raise funds through US dollar-denominated bond issuances. They include Longfor Group, which announced successful issuance of bonds for a total of $800 million.

The interest rate on Longfor's $300 million 5.25-year bonds was 3.9 percent, and the rate on $500 million 10-year bonds was 4.5 percent.

According to data of Shanghai-based E-house China, a realty information provider, the financing cost in the domestic market could exceed 7 percent for smaller, unlisted developers.

For large, listed developers, the borrowing cost was between 5 percent and 5.5 percent. Fund raising from trusts could see the cost go up to as high as 10 to 12 percent.

Lending to the real estate development sector, particularly the residential segment, was tightened in many cities in recent times to curb speculative buying.

According to E-house data, combined fund-raising by 108 domestic developers monitored declined from 1.113 trillion yuan ($174.9 billion) in 2016 to 1.086 trillion yuan in 2017.

Among all fundraising channels, bond issuance dropped the most－more than 90 percent－from 452.7 billion yuan to 43.7 billion yuan.

Meanwhile, funds raised in overseas markets rose from 338 billion yuan in 2016 to 432 billion yuan in 2017.

In China, the interest rate may increase further this year as decision-makers are continuously making efforts toward opening-up and reforms, making China's financial market more liberalized and pricing more market-oriented.

Yang Tingyu, chief economist for the China market with ANZ Bank Group, said that authorities are likely to offer more freedom to set the correct cost of funds. "Borrowing cost is likely to further rise under such conditions," he said.

Rates in the central bank's open market operations inched up this year already, in line with the overall policy-tightening trend, said Zhou Hao, senior emerging markets economist for Asia, Commerzbank.

"It is also sensible to forecast dollar-yuan exchange rates with reference to a basket of currencies. The two-way volatility will increase remarkably," he said.

Such trends mean that developers' lending would likely be open to volatility and risks.

For large-size developers that have ample cash flow from sales revenue and stable refinancing channels, pressure from liabilities is acceptable, according to a recent research note from ratings agency Moody's.

Smaller developers, particularly aggressive ones that bought land parcels at very high premium rates, are facing more pressures, said Zhang Dawei, senior analyst with Centaline Property.

Lending to real estate developers is likely to remain tight this year as China is still in the process of deleveraging; the country is also moving away from excessive reliance on the real estate industry for local economic growth, said analysts.

"Securitization is likely to grow fast, particularly when the leasing market is encouraged," said a research note from Oriental Securities.