The projects which owe their existence to the fact that they once appeared "profitable" in the artificial conditions created on the market by the extension of credit and the increase in prices which resulted from it, have ceased to be "profitable." The capital invested in these enterprises is lost to the extent that it is locked in. The economy must adapt itself to these losses and to the situation that they bring about—Ludwig von Mises
In this issue
Stagnation is Growth! As Q3 GDP Spiked, ALI, SMPH and RLC’s 3Q Real Estate Sales Languished! Debt Massively Outpaced Revenue and Income Growth
I. The Smoke and Mirror GDP and Financial Markets
II. As the Real Estate Sector’s Share of the GDP Falls, Bank Lending’s Share to the Sector Soared!
III. The Real Estate Sector’s Amazing Race-to-Build Supply
IV. Stagnation is Growth! ALI, SMPH and RLC’s 3Q Real Estate Sales Languished!
V. Stagnation is Growth! Divergent Path of Real Estate GDP and Consolidated Revenues of PSEi Property Firms! Where will Demand for Properties Come From?
VI. Stagnation is Growth! Escalating Leverage, Falling Profit Margins and Income Equals Rising Credit Risks
Stagnation is Growth! As Q3 GDP Spiked, ALI, SMPH and RLC’s 3Q Real Estate Sales Languished! Debt Massively Outpaced Revenue and Income Growth
I. The Smoke and Mirror GDP and Financial Markets
"The GDP is booming!" acclaimed the authorities!
"Corporate earnings are strongly recovering!" the establishment blared with accolades!
The thing is, we seem to live in a world of smoke and mirrors. What you hear or read about; is not what you get.
Ironically, as noted last week, there is hardly any evidence to support such cheerleading.
First, founded on the charade of sundry rescue measures, such as the collapse in deposit expenses from the historically low monetary policies of the BSP, bank earnings boomed even when its core operations, interest and non-interest incomes, suffered deficits in the 3Q.
Worst, even under such sluggish conditions, the PSA considered these as GDP positive or growth! The financial sector even grabbed a significant share of the GDP!
Bank Bailout: BSP Retains Policy Rate; Hello Stagflation! Fastest Plunge of Treasury Spreads (20 & 5 years) Since 2014! PSE Bank’s 3Q Performance November 21, 2021
Next, consumer spending lifted the 3Q GDP, the mainstream alleged. To support this claim, nominal retail GDP even shot beyond pre-pandemic levels, according to their statistics.
But has it?
The paradox is that the individual and cumulative sales from the biggest listed retail and food chain in 3Q narrate a contrasting and unsupportive picture of the GDP.
Outside the preponderance of the low baseline effect, peso sales revealed an L-shape recovery so far.
Q3 2021 Retail GDP Boom? Peso Sales of SM, Robinsons Retail, Puregold, 7/11, and SSI Says No! November 22, 2021
In any case, the establishment spins % increases of the low baseline effects as GROWTH!
The impression built is that one of something for nothing. For them, that's attaining economic progress through distortions of reality!
This mirage seems hardly different from the price-setting actions of the PSEi 30.
II. As the Real Estate Sector’s Share of the GDP Falls, Bank Lending’s Share to the Sector Soared!
We arrive at the third segment of this insufferable charade. But this time we shall deal with the most popular sector: the real estate industry!
The sector’s GDP essentially confirmed the biases of the Panglossian views of the mainstream even when these are mostly groundless.
Figure 1
In Q3, real estate GDP supposedly grew 4.7% (real) or 7.7% (nominal). This growth prompted a bounce on the sector's falling share of the national GDP to 6.3% from an all-time low of 5.2% in Q4 2020. (Figure 1, topmost and middle windows)
So, while bank leverage continues to mount, the data on the GDP share tells us the sad tale of diminishing returns and degenerating productivity.
That, by the way, is from the government's data (PSA). It is lamentable that despite its availability, the public remains uninformed of these developments.
Meanwhile, universal and commercial bank lending to the sector reached a near-record of 19.97% growth in September 2021, a hairline away from the milepost 20% share last July. (Figure 1, lowest pane)
Meanwhile, the % share of loans to the real estate sector by the entire banking industry accounted for a near-record 20.7% in the same period.
And the above bank data accounts for the lending to the supply side of the sector.
In Q2, consumer real estate loans accounted for 8.22% of the Total Loan Portfolio of the banking system (net of Interbank Loans).
Despite the collapse in the real estate GDP in 2020, loans to the sector, both the supply and demand side, continued to post positive growth. Or, to circumvent insolvencies, banks persisted in lending to their key accounts, and thus, credit deflation did not occur.
That is because central banks fret about credit deflation the most.
Since collateral serves as a basis for loans, consisting mainly of real estate, the historic liquidity injections by the BSP had been designed to maintain a range of tolerable asset price levels (mainly, stocks, bonds, and real estate) that prevent credit deflation from affecting the solvency of banks.
For instance, this Businessworld November 4 article had US rating agency, Fitch Ratings, warning local banks on extensive exposure to the property sector: THE PHILIPPINE banking industry may face rising risks from its exposure to the property market as real estate prices decline amid a sluggish economic recovery, Fitch Ratings said. “Philippine banks face higher impairment risk amid a correction in property prices and a much weaker economy,” Fitch Ratings said in a report on Wednesday.
Yet, even though the pandemic forced a change in consumer behavior, the bulls deeply believe that they can restore the past.
Good luck to them.
III. The Real Estate Sector’s Amazing Race-to-Build Supply
And because it is a popular sector, primarily a source of easy money, many wanted in.
Figure 2
Or, because the stock market signaled that the sector generated beckoning returns, it became a critical magnet of investments and speculation.
The PSE’s property index had an eleven-year boom drawing with it a significant share of the overall volume of peso transactions.
In October 2021, while the share of volume of the property sector has recovered the pre-pandemic levels, the index has weakened. (Figure 2, upper pane)
Booming stocks diffused into property prices.
According to the Bank for International Settlements, domestic real estate prices also surged from the nadir of 2009 until Q3 2016. (Figure 2, lower pane)
From then, the PSE’s property index and the growth rate of the real estate index parted ways as the rate of real estate price growth decelerated.
That said, as part of their ancillary business, many listed non-property and non-holding sector firms today have exposure to the various aspects of real estate operations, such as leasing, investment properties, development, and sales, etc. Such manifests the magnitude of supply expansion from the BSP's historic low policy rates.
GREEN, PPC, ION, PHN, GMA7 are among some on this list.
And that's from the listed segment alone. Not only are the big unlisted firms excluded from it, but also the moms and pops speculators/ developers/lessors, as well as the multitude of intermediaries.
In supposed boom times, survey data on the sector in 2017 from the PSA would seem insufficient in capturing the scale of participation.
The recent surge of Non-Performing loans should likewise compound supply woes.
But the mainstream is insistent that demand will eventually recover enough to fill this gap.
IV. Stagnation is Growth! ALI, SMPH and RLC’s 3Q Real Estate Sales Languished!
But have green shoots surfaced?
Circling back to the GDP, official data stated that the sector posted a sharp rebound in Q3!
After the Q2 2020 crash, the speed of its recovery has brought back spending by this sector to 2018 levels! And as noted above, its recoil was the foundation for regaining some of its lost share of the GDP.
This development should signify pleasant news only if accurate.
But has the actual performances of industry's listed firms validated the GDP?
Let us cut the chase. There was no boom in the real estate sector in Q3.
First, even the optimistic property agencies admit to this.
The following news excerpts deal with leasing.
From the Businessworld, October 28: OFFICE LEASING in the Philippines shrank by 35.7% to 72,000 square meters in the third quarter from a year earlier amid a coronavirus pandemic and uncertainties posed by elections next year, according to JLL Philippines. The extension of the work-from-home setup in many companies had mainly caused the contraction, Janlo C. de los Reyes, research head at JLL Philippines, told an online news briefing on Wednesday.
From CNN, November 24: More office spaces in Metro Manila were left unoccupied in the third quarter as remote work becomes more commonplace among companies, a property consultancy firm recently reported. KMC Savills reported an office vacancy rate of 15.5% in the capital region, more than double the 7.3% figure logged from July to September last year. “[D]ue to Delta variant concerns, some have pushed back return-to-office timelines until early 2022. Pre-terminations and non-renewals continue to drag demand,” said the company in its third quarter briefing on office space in the metropolis.
Weak demand from changes in consumer behavior and economic losses have led to more supply expansion as leverage mounts, how is this bullish?
Next, let us zoom in on the financial performance of the property developers of the PSEi 30.
Figure 3
In peso revenues, of the four property firms included in the PSEi 30, only Megaworld has consistently posted revenue growth since its Q2 2020 nadir. (Figure 3)
MEG’s growth trend resembled the GDP. But its bigger peers had a different outcome.
Ayala Land has had an L-shaped recovery. SM Prime suffered a dramatic plunge in revenues! Even revenues of the smaller contemporary, Robinsons Land, plummeted in Q3!
Figure 4
Combined, the waterfall in real estate sales adversely impacted their top-line as the rental segment remained fragile. (Figure 4, topmost pane)
The poor showing of retail sales, as previously discussed, reflected on the rental income of the malls. (Figure 4, second to the topmost pane)
And because of the deficits of its contemporaries, the larger SM Prime and the lesser Robinsons Land were more extensive, Megaworld’s outperformance was not sufficient to fill the gap.
To emphasize, instead of a boom, the ballyhooed reopening showcased a sharp decline in real estate sales, and therefore, was reflected on the total revenues of the aggregate.
And the sales slack wasn’t confined to the property firms of the PSEi 30.
Even from the standpoint of a bigger set of members, the old property index, total revenues grew by 2.87% or by a net Php 2.36 billion, on the back of the real estate sales, which grew by 8.7% or a net Php 8.158 billion that delivered a 7.13% income or Php 1.219 billion. (Figure 4, table)
The table exhibits too that most of the % gains in the old index emanated from the PSEi property firms.
It should come as a reminder that the low-baseline effects have magnified the % performance.
Outside these, top-line performance would have been negative, mainly from the negative sales of VLL.
V. Stagnation is Growth! Divergent Path of Real Estate GDP and Consolidated Revenues of PSEi Property Firms! Where will Demand for Properties Come From?
And here is the thing.
Compared to the real estate GDP, the revenue share of the property firms of the PSEi tumbled to the lows of Q3 2020! (Figure 4, lowest pane)
Like the retail counterpart, it suggests a boom in the broader economy or the non-PSEi 30 listed firms, as well as the unlisted ones (or property MSMEs).
But the PSE data above tell us a completely different story: not only has the four property firms of the PSEi 30 the biggest share of the old index revenues, but it also captured a larger share in Q3 2021 despite its sluggish performance from a year ago!
Figure 5
But notice this, for the first time since at least 2017, total revenues of the PSEi property firms or the biggest four have diverged or departed from its Nominal GDP! (Figure 5, topmost pane)
Stunning!
But it gets better. All we need is to follow the money trail.
How will demand for the sector be financed?
A simple answer. Unless paid for by savings, financing the demand for property will emanate from a stream of disposable cash flows. Demand for property principally stems from business use, personal utility (consumption or leisure), or speculation.
So, where are the savings to finance economic investments to create demand for properties? In the thrust to centralize the economy, how will the massive redistribution policies increase savings or capital? Or, will it do the opposite, strip mining people’s savings that lower investments?
According to the CEIC data, the Gross Domestic Savings rate plunged to a record low in Q3 2021! So how will a dearth of savings spur investments? (Figure 5, second to the top window)
Unlike the mainstream, economics does not operate in a vacuum.
The kernel of the story: Q3 GDP and the performance of the property firms in the PSE had little relevance or correlations.
Because it is election season, shoring up the chances for the incumbent to hold a tight grip on power requires the GDP to outperform!
So, expressed through statistics, "Stagnation is Growth"!
VI. Stagnation is Growth! Escalating Leverage, Falling Profit Margins and Income Equals Rising Credit Risks
Figure 6
But there’s more.
If the property firms of the PSEi 30 serve as a bellwether, the downtrend in profit margins, which matches the sector falling share of the GDP, should serve as an alarm bell. (Figure 5, second to the lowest pane)
The squeeze in such margins may have been primarily due to rising input prices from increased resources consumed by the sector. Construction wholesale prices surged along with the CPI from 2016 to 2018. It is presently soaring too! The rate of increase has almost reached the highs of 2018! (Figure 5, lowest pane)
Nota Bene: The index may not be an accurate indicator of the industry because it measures purchasing activities of government agencies.
Nonetheless, it exhibits the law of diminishing returns in action and the inflection stage of the Austrian Business/Trade Cycle.
Interestingly, despite this, published net income of the PSEi-4 peaked in 2019 before collapsing in 2020. It bounced in Q2 2021, but the month-on-month trend appears to have declined. (Figure 6, topmost pane)
Moreover, while the 17-old index real estate companies amassed a net income of Php 14.8 billion in the 9-months of 2021, cumulative debt surged by Php 78.02 billion or about five times the published net income! (Figure 6 table)
On the other hand, PSEi property firms generated a net income of Php 6.8 billion but acquired Php 52.8 billion in debt, about seven times the net income!
And whether or not revenue or income grew, accumulation of debt has been the only consistent growth performer. Or, while the volatility of published income varied, the growth of debt steadily climbed.
Surging debt has also cramped earnings through rising interest expenses or debt servicing costs, which are sensitive to changes in interest rates. (Figure 6, lowest window)
Let us get this straight. How can escalating balance sheet leverage in the face of a sluggish economy, represented by a fragile top-line performance and declining profit margins from rising input costs, have a pleasant outcome?
Will this not raise the credit risk for the industry and the economy instead?
So ignore the risk and pretend that stagnation is growth? Really?
Yours in liberty,
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