The biggest fear investors should have
with the crisis gripping overly indebted Chinese real estate developer
Evergrande is global contagion, argues Goldman Sachs.
"The danger is precisely the
contagion effect, should a default occur without clear 'ring-fencing' of
spillovers to other parts of the real economy or financial sector. Events over
the past week suggest risks of inching toward that direction," said
Goldman Sachs Hui Shan in a research note on Monday.
Shan points out that he is already seeing
signs of "contagion" — a word that skyrocketed into financial media
lexicon during the Great Financial Crisis when the liquidation of Lehman
Brothers pressured all asset markets globally — related to Evergrande.
"Equities and bonds issued by other
developers with high leverage have sold off. Protests at Evergrande offices
across China may cause reluctance among potential homebuyers more broadly.
Financing pressure faced by property developers has contributed to failed land
auctions in a number of cities," said Shan.
An initial whiff of contagion blew
through U.S. markets to kick off this week's trading.
By early afternoon trading, all major
stock indices were at session lows. The Dow Jones Industrial Average plunged
more than 800 points. The CBOE Volatility Index (VIX) spiked to levels not seen
U.S. companies with outsized China
exposure such as Apple and Tesla sold off hard, and were some of the most
actively trafficked ticker pages on the Yahoo Finance platform. The concerns
around Evergrande also triggered a nearly 10% sell-off in bitcoin (usually seen
as a safe-haven play during bouts of stock market volatility), which spread to
shares of crypto mining tech seller Nvidia.
"When something like this occurs, it
is hard to get your arms around what it is and what contagion means. Think back
to that stuff during the European or Asian financial crises," said Baird
strategist Michael Antonelli on Yahoo Finance Live.
Goldman's Shan outlined several potential
scenarios for China's economic growth from the troubles at Evergrande, all of
which will only stoke fears of contagion to global asset markets.
Explains Shan, "In the first
scenario, the total negative impact would depress the level of output by 1.4%
of GDP, with the direct impact playing the most important role. In the second
scenario, the total negative impact increases to 2.5% of GDP. In the third
scenario, the total negative impact is as large as 4.1% of GDP, with the
financial conditions channel contributing the most to the total impact,
highlighting the importance of the financial spillover effect on the economy in
this most bearish scenario. Note that this is a partial equilibrium exercise
which does not take into consideration potential monetary and fiscal policy
easing in response to the property market declines."