Long odds: China's bet on Reits draws sceptics

Shanghai

CHINA'S plans to introduce real estate investment trusts (Reits) mark a crucial step to get private money to fund infrastructure such as toll roads and sewage systems, but the authorities have their work cut out in creating a fully-fledged market.

In many countries, Reits are used as a means for investors to own property via the stock market, enjoying the income from projects such as tenanted office blocks, while allowing developers to free up their balance sheets for new ventures.

The test, say experts, is whether Beijing is able to develop a more market-based means of financing future growth, which evolves only slowly, but has the advantage of enlarging the pool of available capital and weaning off inefficient state players.

Infrastructure experts, fund managers and lawyers said setting up a Reits market in China could prove tricky, as they pointed to difficulties such as lack of sufficient returns, stakeholder reluctance, as well as legal and tax issues.

Leo Zhang, the chairman of Jumbo Consulting, an infrastructure-focused consultancy, expects it will take several years to develop the market.

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Under the pilot unveiled last month by the National Development and Reform Commission (NDRC), the state planning agency, assets eligible for issuing Reits include data centres, toll highways and sewage systems among others. They must be operational for at least three years.

Although property is currently excluded for fear of stoking an asset bubble, the Reits could unlock funds for the next wave of job-creating infrastructure projects, as China strives to revive economic growth amid its worst downturn in three decades.

A broader China Reits market that eventually covers property could reach over US$3 trillion, Goldman Sachs estimated. This would be enough to surpass the United States as the world's largest.

Yet, experts say developing a market even a 10th of that size would first need the authorities to address some fundamental issues. The biggest snag is finding projects for China's Reits that offer attractive returns since few, funded by cheap state loans, were designed with market-level returns in mind.

"Returns in infrastructure are particularly low in China compared to other markets," Jumbo Consulting's Mr Zhang said.

Infrastructure funded through public-private partnerships (PPP), which have to date led China's efforts to attract private investors, usually yield at best between five per cent and six per cent, compared to between 12 and 15 per cent for those in Western economies, he said.

The low-returns problem has stung Beijing before, when it stumbled in its 2016 push for PPP Asset-Backed Securities (ABS) as some seemingly promising projects suffered losses for consecutive years.

Even for higher-yielding projects, questions remain over whether the current shareholders - local authorities and others - would have enough incentive to sell into Reits, given they are now enjoying the returns on their initial investments.

Taxation is another issue. The risk is that under current rules the asset owners - still likely to be the government vehicles, with Reit-holders owning the right to the income stream - are liable for high income tax and various value-added taxes.

There have been calls for tax breaks to help kickstart the new market, but these can be complex to set up on a project before the Reit containing it is successfully listed. REUTERS