The world has grown accustomed to China being one of the most powerful engines of the global economy. It has maintained a growth rate of more than 10% for five consecutive years while keeping inflation relatively low. Gross domestic product (GDP) increased to Rmb2466bn ($347.79bn) last year, bringing China ever closer to overtaking Germany as the world’s third largest economy. Exports grew by 25% in 2007, imports by 20.8% and foreign direct investment rose 13.6%. Profits at industrial companies rose almost 40% in 2007, the growth in fixed asset investment was up by 24.8% on 2006. The Banker, 7 April 2008 [1].

China is certainly maintaining the sort of growth rate that we, personally, in the UK have never experienced and probably never will. Ordinary Chinese citizens are getting rich at an unprecedented rate. The Chinese authorities have to cope with economic problems (like a huge trade surplus) that will never keep Gordon Brown or Alistair Darling awake at night.

Investing in China, however, has great risks. If you had invested in China's version of the FTSE 100 last October, by April you would have lost half your money (chart [2]). If you had invested in a broadly based fund designed to give exposure to China's real estate sector (NYSE:TAO [3]), and managed to buy at the peak and sell at the trough (uncannily easy, in my experience), you could have seen your investment lose 37% of its value. Things are looking bullish again now, and an index of traded development companies is not the same as direct investment in individual properties. However, I believe that this real estate index gives an accurate reflection of the volatility of the Chinese real estate sector.

On my most recent trip to China I saw a number of properties in upmarket developments. To get an idea of the sort of luxury that is available in the China market, click here [4]. These are the sorts of developments that particularly appeal to overseas buyers. In Zhuhai anything from 30% and above of new luxury developments will be sold to foreigners, principally Macanese. The problem with knowing what the correct price to pay for these units is that a high proportion of them remain empty years after the block is completed. They are purchased speculatively. Owners have made large profits on paper but for the market to keep rising they will all have to not waver in their conviction that now is not the moment to sell. Once the market starts to waver, I fear that the fall will be precipitous. Certainly the Banker (see reference above) is concerned that China will see a slowdown that is as bad as that in the USA. It is certainly the case that Shenzhen prices have fallen by between a fifith and a third in the final quarter of last year. However Zhuhai never had the runaway property price inflation that characterised Shenzhen and as a consequence has seen no serious falls, certainly in older apartments.

My recommendation is to buy apartments of modest size (<90 sq. m) in one of the busy areas of Jida, Zhuhai. Purchased in older blocks where there are good local facilities they will rent quickly for yields which are still comparable to mortgage financing costs. Prices per square metre of these older apartments will be typically less than half of those in the luxury apartments, and they will have a lower service charge. Moreover, if they are carefully chosen they will offer the possibility of a redevelopment bonus, if a developer decides he wishes to acquire a block to replace it with a much higher modern one.

So, to answer the question posed in the subject line: no, I don't believe that the market is a bubble about to burst, but it is very important to choose the right location and the right type of property.

If you would like to discuss buying such an apartment, contact me direct on +44(0)2030513191 or call the office on +44(0)8452990113.

For those for whom a direct investment is impractical for whatever reason, I am working on setting up a syndicated investment, with a number of partners. Please drop me if you are interested. You can also sign up by following this link [5].

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Steve Hemingway