China ‘Lehman Moment’ Warnings Return As Evergrande Saga Spirals

Maybe we’re witnessing “Beijing’s Volcker moment,” as Nomura’s Ting Lu put it last month, in a lengthy exposition detailing the extent to which Chinese officials appear willing to “sacrifice some near-term GDP growth for taming home prices and diverting financial resources out of the property sector” which, he gently reminded market participants, “makes up one-quarter of China’s economy.”

In the same note, he suggested investors’ obsession with various regulatory crackdowns is blinding market participants to the real story.

While the tech crackdown and Xi’s “common prosperity” push continue to grab headlines, markets are indeed coming around to the notion that Beijing is confronting a momentous decision. More to the point, markets are concerned that China might be staring at a “Lehman moment” courtesy of the Evergrande saga, which spiraled rapidly toward the end game this week.

The table (above, from SocGen) is just a handy timeline of key Evergrande-related events in 2021.

The PBoC injected a net 90 billion yuan in short-term liquidity Friday, the most in seven months (figure below). It’s quarter-end and Golden Week is coming up, so it’s probably a mistake to read too much into it.

“It’s not surprising that the PBoC is acting to contain the liquidity pressures,” Alvin Tan, head of Asia FX strategy at RBC, said.

Still, he noted that “the Evergrande situation and its repercussions on the broader property market will have a far greater direct impact on Chinese growth than any of the other regulatory crackdowns we have seen in recent weeks.” Given that, the PBoC may be in the early stages of trying to avert spillover into money markets.

The shares fell 30% this week in Hong Kong. It’s been a rough year (figure below).

Global Times’ editor Hu Xijin suggested Evergrande should try to rescue itself through “market means.” Hu’s social media posts are generally seen as reflecting the Party’s position, but he’s often a conduit for trial balloons. That one likely won’t fly.

If there’s a market-based solution that wouldn’t dead end in a disorderly default or some manner of harrowing liquidation, it’s not obvious what that solution is. Evergrande has 13 outstanding dollar bonds. Getting bondholders around the world on the same page is likely to prove impossible.

If you’ve “been around” (so to speak) for longer than a few years, you’ve heard “Lehman moment” in reference to China more times than you can count. It’s eye-roll inducing. Somebody, somewhere, always sees a “Lehman moment” around the corner for the world’s second-largest economy. It never pans out.

Is this “The big one, Elizabeth”, as Fred Sanford might say? Maybe. But even analysts willing to use “Lehman” in the title of a note (as SocGen’s Wei Yao and Michelle Lam did on Friday), aren’t convinced the world is ending.

“As we are not credit analysts, we cannot really judge the default probability of Evergrande [but] we tend to agree with the bond markets that such a default, if it occurs, would be unlikely to usher in a Lehman-style financial crisis,” they wrote, adding that although Evergrande is systemically important, “Chinese policymakers have the willingness, capability and knowhow to stem a financial market meltdown.” They referenced the Baoshang debacle.

Although SocGen’s top concern isn’t a Lehman-style meltdown, Wei and Lam did warn Friday on “an extended and severe economic slowdown,” something they said “may well be the necessary short-term pain to endure for long-term sustainability.”

Christophe Barraud, chief economist at Market Securities and Bloomberg’s top-ranked forecaster for the Chinese economy, now sees economic growth grinding mostly to a halt this quarter. His projection for Q3 is just 0.3%. “My view is that the Chinese economy should slow sharply in the third quarter, mainly due to the virus but also controls on property,” Barraud said.

In a Weibo post, the Global Times’ Hu said an Evergrande bankruptcy wouldn’t spark a Lehman-style financial crisis because in China, the down payment ratio is “very high.”