China Real Estate Investment:
How a City is Tiered Bears Little Meaning
Real Estate Analysis Limited
years, we have heard quite a bit of market opinion
the 1st tier cities in China, namely Beijing, Shanghai,
Guangzhou, and Shenzhen, have become too expensive, and thus one
should now consider the 2nd tier (or even 3rd tier)
cities which are emerging and offering better pricings, thus implying better
prospective investment returns.
the 1st tier cities are comparatively expensive
residential prices hovering 10K or more Yuan per square meter of floor area,
and no question that some 2nd tier cities offer excellent
with stocks investment
typical investor would likely have some blue chips in his or her portfolio
despite the blue chips tend to cost more per lot, not to mention some
investors only go for blue chips, it is almost nonsense to suggest that the
1st tier cities in China be dumped for the 2nd tier
ones simply because the former cost more to acquire, or for that matter, the
latter look cheap.
overvalued small stock is still overvalued, and an undervalued blue chip is
not go for an overvalued small stock because it costs $1 to buy while
shunning the undervalued blue chip that commands $10. Likewise, one goes for
a real estate market which is by and large undervalued, be it 1st
or 2nd tier, and avoids one which is overvalued, again be it 1st
or 2nd tier.
appears to have been confused by and at the same time fused two different
city ranking and investment market ranking. While cities can
be categorized as 1st, 2nd, 3rd, or even 4th
tier based on their stages of development, city scale and population,
cultural or political significance, and the like, such tier rankings bear
little meaning from a real estate investment angle.
readers may ask, aren¡¦t the 2nd tier cities offering higher
returns, especially when real estate developers appear to flock to them?
To address this question, we shall look at some numbers and charts, but
first a word on relying overly on the investment actions and decisions of
real estate developers; it is dangerous to do so.
Because real estate developers have one thing which most real estate
investors do not have,
is ¡¥value creation¡¦ via the change of land use, redevelopment, the
alteration of building scale, the application of better design and
functionality, and so on. What is more is that given all things being equal,
real estate development economics do not always need to rely on real estate
price increases. Such asset price increases are naturally nice to have and
will boost a developer¡¦s IRR, but are not as crucial to a developer as it is
to a real estate investor who buys and sells only existing (built)
properties. In short, a developer may at times enter a market even if he or
she expects prices there to remain more or less the same.
Now to the
picked 10 cities-markets for comparison, including the four 1st
tier cities of Beijing, Shanghai, Guangzhou, and Shenzhen, and six 2nd
tier cities of Tianjin, Dalian, Chengdu, Nanjing, Hangzhou, and Wuhan. We
also focused on the luxury residential sector and its rental and price
performances from 2003 to 2008. Data sources include various city government
websites and real estate agencies such as CBRE. For ease of comprehension,
we have only shown the graphic data and calculations in broad terms of 1st
tier and 2nd tier cities.
= we shall look at the rental and price aspects of the luxury residential
real estate sector for each of the 10 cities mentioned above in terms of 1)
their volatilities during the period, calculated by dividing the standard
deviation by the average; and 2) their overall percentage gain or loss
during the period.
Rental and Price Volatilities
during the period = generally, the higher the volatility measure, the
higher the risk is, and assuming all factors being equal and purely from a
risk-adverse standpoint, an investor may wish to consider cities which dots
are geared toward the ¡§lower left corner¡¨ i.e. cities with lower
rental and price volatilities (or say fluctuations). Two of the 1st
tier cities do exhibit lower than most volatilities while one hovers with
the ¡¥average or typical¡¦ crowd. The fourth 1st tier city contains
the highest price volatility though the highest rental volatility award goes
to a 2nd tier city. Overall, almost all of the cities shown
herein tend to have lower rental volatilities and higher price volatilities.
In short, prices appear to fluctuate more than rents implying interchanging
rental yield compression and expansion.
Rental and Price Percentages Gained or Lost during the period
= generally, the higher the percentages, the better the return is, thus
implying an investor may wish to consider markets which dots are geared
toward the ¡§upper right corner¡¨. Interestingly, while all 10 cities
exhibit gains of varying degrees in terms of asset price performance, some
of the cities actually offer reduced rentals during the period. This jives
with the observation in (B) that some cities offer compressed rental yields
i.e. their luxury residential real estate have gone up in prices without a
proportionate increase in rents. Of the four 1st tier cities,
three tend to offer lower rental and price increases than most (but not all)
other cities, yet the best performing city in both rental and price
increases is a 1st tier one.
tier supporters (or hardliners) can still argue the above numbers reflect
only the past,
the future which may actually show 2nd tier cities to be offering
definitively higher returns, even on an adjusted basis. As your humble
author is no astrologist or fung shui master, let time be the judge then.
that to date, the 1st tier cities as a group still offer some
in both risk and return parameters.
The article and/or content contained herein are for general reference only
and are not meant to substitute for proper professional advice and/or due
diligence. The author(s) and Zeppelin, including its staff, associates,
consultants, executives and the like do not accept any responsibility or
liability for losses, damages, claims and the like arising out of the use or
reference to the content contained herein.
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