Indebted Chinese Real Estate Developer Could Become Systemic Risk

Recent speculation surrounding the property developer China Evergrande Group caused the S&P 500 to have its worst day since May. But what we should look out for is systemic risk, according to John Sedunov, PhD, associate professor of finance at Villanova University.

Evergrande currently has the biggest debt out of all publicly traded real-estate management or development companies. “The big issue seems to be Evergrande’s ability to repay its debt. The bigger issue is a potential for systemic crises or contagion to unfold,” said Dr. Sedunov.

Another possibility is that Beijing could allow Evergrande to default. “Evergrande is a large Chinese developer, and the Chinese government may allow it to fail. It owes a lot of money to financial institutions and other market participants,” says Dr. Sedunov.

With these risks, assets were moved from stocks, oil and Bitcoin to much safer options.

“What’s potentially at stake is a contagion event where institutions with large exposure to Evergrande experience distress or fail as a result of lost cash flows they are expecting from Evergrande. This scenario is exacerbated if the company is allowed to fail,” said Dr. Sedunov.

Does this present any other future concerns?

Per Dr. Sedunov, Evergrande’s collapse could also impact the housing market. “More at issue is also that the real estate sector in China looks to be quite overheated (and it may be here as well), and this could be a signal of a collapse in real estate values, which again can bleed back into the financial system,” he said.