Back in the good old days — early 2007 — bankers from Merrill Lynch, Deutsche Bank and other financial giants placed their bets on a 48-year-old property tycoon who was supposed to be China’s next billionaire.
They lent his company $400 million, encouraged him to acquire large tracts of land and in early 2008 promoted a proposed $2.1 billion public stock offering by the company, the Evergrande Real Estate Group, in Hong Kong.
One year later, China’s housing market has collapsed, Evergrande is mired in debt and the Wall Street bankers are facing huge losses because the company never sold stock to the public.
Now, analysts say, Evergrande has become a symbol of China’s go-go era of investing, when international bankers, private equity deal makers and hedge fund managers rushed here hoping to cash in on the world’s biggest building boom.
By making short-term and sometimes hasty bets on China’s property market, analysts say, some of the world’s biggest financial institutions may have lost as much as $10 billion.
“They were greedy,” says Andy Xie, an independent economist who once served as Morgan Stanley’s chief economist in China.
While the scale of the property downturn is still unclear — sales have rebounded slightly after falling more than 50 percent in some big cities — investment in big property projects has stalled.
What is clear is that the real estate boom was fueled in part by foreign investors, who over the last four years pumped tens of billions of dollars into the Chinese property market, hoping to snap up office buildings, luxury villas and stakes in big developers.
A Morgan Stanley real estate fund bought a tower in Shanghai for more than $240 million; the Carlyle Group acquired luxury villas; and in 2008 J. P. Morgan Asset Management held a 12 percent stake in R&F Properties, a big Chinese developer.
To earn big returns, many global investors used complex offshore investment vehicles, like convertible bonds and preferred equity, which gave them tax advantages and allowed them to more easily bypass Beijing’s strict controls on investing in Chinese companies listed overseas. Often the investments were routed through places like the Cayman Islands or the British Virgin Islands.
A favorite investment play was the pre-initial public offering deal. Flush with capital, foreign investors would issue convertible bonds through an offshore entity as a way to invest hundreds of millions of dollars in a Chinese property developer. When the developer was ready to sell stock in Hong Kong, it would pay back the initial investment or bond by giving the foreign investor pre-I.P.O. shares at a discount.
Analysts say that foreign investors grew increasingly aggressive about such deals, sometimes failing to weigh the risks.
The investors would typically find a developer, pump huge amounts of capital into the company through the offshore investment vehicles, encourage the developer to use the money to amass a huge land bank to increase the company’s value, then prepare the developer for a Hong Kong stock offering. Less than a year after the stock offering, many investors planned to exit the deal by selling their Hong Kong shares at a huge profit.
Investors also hoped to gain from China’s currency, the yuan, which was gaining against the dollar and enticing even more speculative capital into the property market.