China – A Treadmill to Hell, Says Jim Chanos

Almost every active investor knows that Jim Chanos of Kynikos Associates, is predicting a real estate collapse in China. There's been a number of articles written about it here at Benzinga. Chanos has been very vocal about it, calling China, “Dubai times a thousand,” etc. However, after watching Chanos on Charlie Rose last night, I find his logic very compelling.

Chanos claims that construction is 50 or 60% of China’s GDP, an inordinately high number. The property bubble is occurring in high rises in the large cities like Beijing. I wrote an article here about the reported Chinese real estate bubble, at the beginning of the year. The article mentioned that the doubling of real estate prices in the last year is not occurring in most areas of China.

What makes the property bubble unsustainable according to Chanos is that most of the hot condos are vacant, because the owners intend to flip the properties. Since a couple earning the average Chinese salary of around $3500 a year could never afford to pay the $150,000 cost of these condos, the price is not related to the income stream from owning the property. The price is dependent on the greater fool theory, that someone will buy the property for more than the present owner paid. A previous housing bubble occurred in China in the 1990’s. It ended badly with China nationalizing the bad loans, says Chanos.

Chanos has a healthy skepticism that the Chinese government will be able to successfully pierce this bubble. Chanos points out the hypocrisy that many American capitalists reject the government interfering with market forces in the American healthcare system, yet have confidence that “10 guys in a room can control a Chinese real estate bubble.”

His logic seems spot on. I’m skeptical of unfettered capitalism here in the U.S. and the Chinese dictators who control the forces of supply and demand in China. It was amusing to watch all those capitalists trip over each other to proclaim that they had no qualms about administering to Beijing’s internet censorship policy, when Google stood up and said enough. What a bunch of hypocrites!

I remember when brokerages and newsletters were overjoyed with Enron, another of Chanos’s famous shorts. I never understood what an energy trader really did, and taking a cue from Peter Lynch, stayed away from investments I didn’t understand.

The larger question is how widespread is this Chinese property bubble and what will be the fallout when it pops? Considering Jim Chanos’s track record, I wouldn’t sell him short.

It would be prudent for investors not to put any new money into emerging markets. Some emerging market mutual funds were up around 70- 80% last year, making them ripe for a correction. If and when there is a Chinese real estate crash it will probably spread to other emerging markets. I remember the Asian contagion that inflicted emerging markets during the 1990’s. I was an early emerging market disciple then, and took losses for a number of years, until finally making money in the last decade.