Friday Letter Chicken counting in China

This week’s new rules issued by China’s insurance watchdog the China Insurance Regulatory Commission on the investments of the country's $670 billion insurance sector have been long anticipated. But while the 10 percent real estate allowance announced has largely been received positively, some corners are cautious. 

Beijing’s release of new investment rules for China’s 4.57 trillion yuan (€516.6 billion; $672 billion) insurance industry is undoubtedly one of the most significant events for the country’s real estate market for some time.

2010 has seen China’s capital city chucking out real estate policies like they’re going out of fashion (albeit mostly to avert overheating in many of its residential markets). But last Sunday’s batch by insurance watchdog, the China Insurance Regulatory Commission (CIRC), could top them all in terms of relevance to private equity real estate.

The new rules dictate that China Life, China Pacific Life, Ping An and peers are now permitted to have up to 10 percent of their assets invested in real estate.

Much of the fine print in terms of implementation still requires further explanation but the broad investment perimeters that have long been anticipated are now known.

There are, as could probably be predicted, numerous caveats to the rule: no investing in residential, development, real estate for own use, private real estate companies and up to three percent only in real estate-related financial products (that one definitely needs further clarification).

Still, there is excitement at the prospect of such a wall of equity coming to market. Indeed some analysts say as much as $100 billion could find its way from Chinese insurers into the country’s real estate. Whatever the reality, one reaction to the 10 percent allowance is of surprise. “We expected eight percent but not 10,” a source said.

Furthermore, investors not caught by CIRC’s caveats will be quietly smiling at the thought of a now obvious exit route for their assets once they’ve worked their value-boosting magic. (We explore this further in the forthcoming October issue of PERE magazine). As an executive from one such investor put it: “For high quality, well-located properties there’s going to be another buyer that people should call to invest in their real estate and one with deep pockets at that.”

But that’s not to say there isn’t caution emanating also and some are keen not to count any chickens before they’ve hatched.

One executive shared his fears that China’s insurers could bypass his firm altogether in favour of buying direct from Chinese developers. In so doing, the competition for potentially institutional grade real estate would intensify, making it harder for firms like his to buy at prices, and on terms, acceptable to his investors.

“There’s no distress in China,” he pointed out, “growth seems strong and stable and now there’s billions coming into the market. That will limit what private equity real estate firms can do.”

Another executive suggested Chinese insurers would be keen to avoid being labelled “dumb money” and might therefore seek to sidestep buying from “fat cat” private equity real estate firms. He said: “I think there may be concern about the optics of letting a firm make two times or three times money on something they buy.”

This could be compounded by the idea a number of firms have been widely reported to have struggled in recent vintages and so may not currently have the best assets to sell anyway, he added.

There is of course always the notion of the Chinese insurer as limited partner. Whether part of the three percent ceiling if real estate-related financial products includes private equity real estate funds, or the five percent ceiling the CIRC has applied to private equity investments – that’s still significant capital.

In the early days perhaps investing via funds will be a more feasible route for the insurance companies, if even only for a small period, until they build up their own management capabilities and start buying for themselves. Experts are always needed to source great investments, and competent private equity real estate firms pride themselves on striking during finite windows after all.