WSJ, January 18, 2008

HONG KONG — Early signs of a softening real-estate market in southern China's two largest cities suggest that government measures to temper investors' zeal for property could be working.

Discounts touted by developers to drum up transactions and a decline in new-home prices reflect concerns that the market has risen too high too fast. They have also left investors wondering whether weakness in China's south might foreshadow the first nationwide downturn in housing prices since private homeownership became a reality in China in the late 1990s.

Prices for new homes in Shenzhen, a southern boomtown of nine million that borders Hong Kong, dropped 8% from September to the end of the year, according to global real-estate advisers DTZ. In nearby Guangzhou — China's third-largest city, behind Beijing and Shanghai, and the nexus of its manufacturing might — prices for new homes fell 9.9% in November from a high of 11,574 yuan ($1,600) a square meter in October, according to city-government statistics. The declines come after years of consistently strong market sentiment in both cities.

A sharper or broader property downturn in China could shake investor confidence, further pressure stocks and hurt the booming economy. But for now, the situation stands in contrast to the housing picture in the U.S. There, a broad decline in prices is linked to fears of recession, and the government is trying to spur activity, not damp it.

"Because inflation is higher, [Chinese] policy makers are increasing their resolve" to curb lending, says Mei Jianping, a professor of finance and a real-estate specialist at the Cheung Kong Graduate School of Business in Beijing. "Some cities will adjust more than others, but this is going to be a nationwide phenomenon."

Many brokers and analysts are reluctant to draw too many conclusions from the downturn in the south. They point to the swelling tides of Chinese that continue to pour into the big cities, looking to buy a first home.

"Fundamental demand in China across the board is very strong and will remain that way for the next 10 years," says Alan Chiang, the Shenzhen-based head of mainland China residential property at real-estate broker DTZ. "We still have a very, very long road to go on urbanization."

China's property prices have reached dizzying highs in recent years, as the nation's cities have taken in tens of millions of new residents and the number of middle-class homeowners rises. Investors have followed the property boom with speculative money.

Prices for new homes in Guangzhou fell 9.9% in November from October.

After posting double-digit growth for several years, real-estate markets in Shenzhen began to wobble this past summer as central authorities rolled out their latest measures to curb speculation there. First, transaction volumes plunged, with November levels falling 81% from a high of 8.6 million square feet in January 2007, according to DTZ. The decline in new-home prices followed.

On the ground, the declines have sparked a phenomenon so far unseen in these cities: promotional gimmicks by developers that, for instance, had residents of Guangzhou lining up overnight for a small discount or free furniture thrown in with a purchase. Chinese news media have seized on any sign of trouble, with readers keenly tuned to the topic. One report this month said Shenzhen-based real-estate broker Chuanghui was shutting hundreds of branches because of declining interest from home buyers.

Central-government policy makers have pressed on with their campaign to curb access to easy credit. This past week, the government again increased the ratio of capital that banks must hold in reserve, a measure it used 10 times last year to restrain bank lending.

Todd Schubert, an analyst at Deutsche Bank AG, says the slowdown is evidence that Beijing's antispeculative measures are taking root. Mr. Schubert expects further price declines across the country in 2008.

In Shenzhen, prices dropped 8% from September to the end of the year, according to global real estate advisers DTZ.

Such a decline could have wider implications for investors in the stock market, since stock prices and home prices are so closely linked in China's closed capital system. Ordinary Chinese investors, with few options, plow stock-market gains into real estate, and vice versa. In recent years, that cycle has spurred both markets to records; now, as stocks retreat, the cycle could work in reverse. The measures are also likely to put a crimp in China's high-flying property developers.

"What the government is trying to do is shift that wealth from the private developers to the general public," says Eric Lam, general manager for the Guangzhou office of Colliers International, a property broker and consultant.

In the big picture, though, the declines don't necessarily spell widespread trouble for a country that has seen a benchmark index of property prices in 70 major cities rise at a solid rate in December, compared with last year. The latest figures, released Thursday by Beijing, showed price growth holding steady in general across the country.