Unscrupulous landlords

It is said that rent controls date back to ancient Rome. One theory is that Julius Caesar swung into action after a Senator complained his rent was being doubled. Later documents show attempts by papal authorities to prevent landlords exploiting the Jews of Rome, although the more modern definition of rent control started sometime after the outbreak of the First World War when a decrease in housebuilding created a shortage of homes. Legislation was introduced in Britain in 1915 to prevent landlords from profiteering during the war years. Originally intended as a temporary measure, certain forms of rent control continued to apply until 1989.

Adam Smith classed rent as the easiest and least risky type of income (versus profit and wages) and economists came up with the theory of rent-seeking to refer to socially or politically protected transfers of wealth.

Rents have become a newsworthy topic in the Chinese media in recent weeks after some incredible spikes in home rental costs in the major cities, and subsequent revelations about how the leasing market has been distorted by the practices of some highly-levered intermediaries in the real estate sector.

After the bankruptcy of a Hangzhou-based property agent this month, the fear is that any attempts to rein-in rents could trigger a wider round of defaults in the shadow banking sector.

How much have rents risen?

The public – especially migrant workers looking for work in bigger cities – have been complaining about the cost of housing for years.

The price of home ownership was already beyond the means of most of the migrant arrivals, especially in the top-tier cities. But despite efforts by policymakers to cool residential prices, the cost of homes in the most popular markets recently got even less affordable. In Beijing, for example, the average apartment is 65% more expensive than it was in 2016. For many, renting is the only option. By the end of last year, the Beijing News reports, up to 35% of the capital’s 21 million residents lived in rental housing.

That kind of commercial pressure has made the Chinese capital one of the world’s least affordable rental markets. Indeed, a survey in May by Global Cities Business Alliance, a UK-based research group, suggested that Beijing was the most expensive place to rent of 15 leading cities analysed worldwide. Beijing’s average rentals corresponded to 1.2 times the average wage. That compared with 70% of incomes in Abu Dhabi, which came second, and 62% in New York.

“Beijing’s average housing cost accounts for more than 100% of net earnings, suggesting that a worker on an average salary cannot live alone in typical city accommodation,” the authors warned.

According to the website Creprice.cn, run by market research firm CityRe Data, Beijing’s average monthly rents climbed 21.9% year-on-year in July, and they were 2.6% higher than in June.

The situation is similar in Shenzhen where 78% of the population is living in leased accommodation. Prices are going up drastically too: in a report by CCTV last week, a young office lady who has worked in the southern city for three years told the broadcaster that she was sharing a small apartment with a colleague at a monthly rent of Rmb4,500 ($658.53), but that they’ll have to cough up 20% more should they want to renew the rental contract. “We can no longer find affordable housing near where we currently live,” she complained.

In the same segment CCTV then noted that half of the country’s top 20 cities have reported annual rises in rental costs of 20% or more. In Chengdu, for example, rents are now 30.9% higher than they were in July last year.

Summer is usually the peak season for new rental contracts, as fresh graduates head for the bigger cities in search of jobs, CCTV reports. But this year the uptick in rental prices is “abnormally higher”, the broadcaster suggested.

Why are rents up so much?

Even if young adults can afford to buy apartments, the home ownership curbs imposed by local governments on outsiders (i.e. those without a hukou, or residency permits) make renting the only option.

In some cities these restrictions are changing (some local governments are allowing purchases from outsiders once residents have paid local taxes for qualifying periods), altthough the availability of cheaper housing has been reduced by campaigns to clean up slum districts or neighbourhoods that aren’t licenced for residential dwellings.

Real estate agents in Beijing, for example, have blamed some of the soaring rents on a crackdown on improper housing. The capital launched a city-wide eviction of tenants from illegal and unsafe buildings (including apartments partitioned into small units to house multiple tenants) after a deadly fire in November last year, which killed 19 people in a community populated by migrant workers (see WiC390).

Between the start of the year and June 19, the Beijing government said it had demolished illegal buildings that occupied an area of more than 800 hectares.

Supply and demand aside, observers are also pointing the finger at the unscrupulous behaviour of real estate agents, saying that they distort the rental market.

A post on Tsinghua University’s online bulletin board triggered a wider debate at the beginning of August, when a landlord in Beijing said that competing offers from real estate agents and apartment-hunting platforms had helped him raise rents for his 120 square-metre unit to Rmb10,800 per month from his original asking price of Rmb7,500, i.e. a 44% surge.

A slew of similar reports followed and circulated on social media. Things got more heated when Hu Jinghui, the outspoken head of research at 5i5j Group – the second biggest property brokerage in Beijing – accused his rivals of inflating rents by encouraging landlords to ask for 20% to 40% more than their original asking prices.

Often backed by financing from online lending platforms, aggressive leasing agents then attempt to sub-lease the scarce apartments to individual tenants at even higher rents (more on this practice later).

“If this goes on unchecked, once these leasing firms’ cashflow crashes, massive numbers of tenants will be evicted by landlords and become homeless,” Hu said at a news conference last week.

Hu’s outburst soon went viral, although, Xiong Lin, boss of rival platform Ziroom, fired back in a public letter that his agency didn’t have the power to dictate prices because its stock of homes only accounts for 8% of the city’s total.

Hu was also rebuked by his employer, the Shenzhen-listed 5i5j (a name that sounds like “I love my home” in Mandarin). A day later he said he was resigning for “reasons that everybody knows”.

How do real estate agents operate?

A conventional real estate agent serves as a matchmaker between landlords and tenants, living off the commissions from both sides once a lease is signed.

However, companies like Lianjia and 5i5j are less reliant on the traditional model. Instead, they have grown into powerful leasing firms that have taken control of a large chunk of supply in the rental market.

According to CCTV, 5i5j has nearly half a million rental units in its portfolio. Ziroom, the app-based platform operated by Lianjia, had more than 700,000 units under management in the first half of this year and plans to control over a million apartments by year’s end, its chief executive said.

Of course, the agencies don’t actually own these properties but act as a “wholesaling tenant” in amassing large numbers of properties from the owners of the flats before sub-leasing them to individual tenants.

This new breed of real estate ‘broker’ is often backed by powerful investors. Ziroom, the Lianjia unit, raised Rmb4 billion from investors such as Sequoia Capital and tech giant Tencent in January in a fundraising that valued it at Rmb20 billion.

58.com, an online market place for classified ads, bought 8.3% in 5i5j for Rmb1 billion in June.

“Backed by venture capital, property agencies and developers are launching institutional renting agencies that are profoundly changing the dynamics of the market,” Yin Zhongli, a researcher at the Chinese Academy of Social Sciences told the South China Morning Post.

“A peer-to-peer market is gradually replaced by a peer-to-institution market, and rent rises became inevitable as monopolies intensified.”

Some of the new style brokerages have also turned to riskier financing models such as peer-to-peer (P2P) lending platforms. According to CCTV, a group of about 20 agencies has raised up to Rmb100 billion in financing by selling securities tied to future rental incomes. The influx of capital has been driven by the collective belief that rents will continue to rise in the long run, the broadcaster commented.

One reason for this forecast is that the central government has been drumming up the policy goal of developing a more robust rental market across the country as part of a bid to dampen real estate speculation (see WiC407).

“Many institutes and even individual investors have joined the game, and they are chasing after a limited supply [of rentable housing units]. The result is inflated rental prices,” CCTV warned, adding that as much as 60% of the market in some cities has already been secured by these kinds of investors.

Remembering its remit, the state broadcaster stopped short of using the term “hoarding” in its description of the situation. But bloggers weren’t as bashful in giving an unvarnished opinion, complaining about a cornering of the market.

“What we are witnessing is the hoarding of rental apartments by real estate agents,” one wrote on Huxiu. “They are effectively speculating on rental prices. And some of them are always repeating their warnings that supply in the market will be tight and that rents are going to continue to soar.”

Are rent controls inevitable?

Reacting to policy indicators, many of the real estate majors have been beefing up their rental portfolios. Vanke, for example, launched a project in June which offers leases to its tenants of as long as 10 years (see WiC412).

Some developers have concluded future rent rises are a sure thing – because yields will have to go up to keep pace with increases in house prices. “At root, the recent spike in rents is the chronic shortage of housing supply,” SOHO China’s chairman Pan Shiyi wrote on his widely followed weibo account, adding that even in red-hot rental markets like Beijing, typical dwellings were delivering yields as low as 1%. “It will be unattractive for the homeowner to lease these flats, even if rents were to double,” he suggested.

Perhaps Pan will be proved right in the longer term (the alternative, of course, is a correction in house prices). But in the near term a bankruptcy in Hangzhou has pointed to more imminent strains in the fast-changing market. Last week Dingjia Network Technology, a local housing agency, said it was suspending its operations due to “bad management resulting from no cashflow”. According to Caixin Weekly, the agency had grown its rental portfolio aggressively in a bid to compete with bigger rivals. In a bid to bring more tenants into apartments under its management, Dingjia acted on their behalf to borrow a year’s worth of rent from P2P platforms. But it was forced into bankruptcy after failing to secure enough tenants to fill its empty stock.

So what might happen next in cities where rentals have raced ahead fastest? Hu Jinghui, the executive who resigned from 5i5j, says he asked the authorities in Beijing to cap prices. Housing officials phoned to thank him for exposing malpractice, he added.

The upshot: the Commission of Housing and Urban-Rural Development called the major property agents together for a meeting, Beijing News has reported, and the 10 biggest rental platforms announced that they had agreed to “follow the government’s instructions”.

These include putting up to 120,000 apartments (about 5% of the total rentals in Beijing) immediately onto the market in a bid to stabilise prices. There was also a commitment not to resort to “unhealthy competition” in securing new stock for their portfolios.

But even as news of this act of civic responsibility began to circulate, the consequences of past behaviour also came up for comment. A fall in rents would be good for prospective tenants. But a sudden and sharp decline could see the more leveraged agents defaulting on their P2P loans and other financial commitments. Dingjia was an early victim of this kind of cash crunch, but more agencies could follow. Watch this space, perhaps…

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