Escalating Default Risks in China's Commercial Real Estate Market

China's commercial real estate market is at a crossroads, with escalating default risks emerging as a critical concern for lenders and investors. While the sector's struggles are well-documented, the interplay of lender caution, illiquid office assets, and shifting liquidity dynamics demands a nuanced approach to strategic diversification.

Lender Caution: A Double-Edged Sword

Chinese banks, long wary of commercial real estate's vulnerabilities, have been recalibrating their exposure. By 2023, commercial real estate loans accounted for 5.2% of total loan books, down from 6.6% in 2019, according to a SP Global report. This retreat reflects a pragmatic response to weak demand for office and retail spaces, compounded by a broader economic slowdown. In Q3 2025, even international players like Ares Commercial Real Estate Corporation (ACRE) reduced their office loan portfolios by 26% year-over-year, signaling a global trend of risk aversion, according to a GuruFocus report.

Yet, this caution carries unintended consequences. Banks' reduced appetite for commercial real estate loans may exacerbate liquidity crunches for developers, particularly in secondary cities where vacancy rates have surged. For instance, Beijing's commercial property vacancy rate now nears 20%, while Shanghai's stands at 15%-far above pre-pandemic levels, according to the SP Global report. Such trends underscore the fragility of a sector already strained by oversupply and weak tenant demand.

Asset Liquidity: A Tale of Two Markets

While the office and retail segments languish, other asset classes are gaining traction. The logistics sector, driven by e-commerce and the dual-circulation policy, is projected to grow at a 7.72% CAGR through 2030, according to a Mordor Intelligence analysis. This resilience is partly due to the C-REIT program, which has unlocked institutional capital for infrastructure-type assets like warehouses and industrial parks. By 2030, the commercial real estate market is expected to expand to $1.16 trillion, with logistics leading the charge, according to the same Mordor Intelligence analysis.

However, liquidity remains uneven. Urban renewal projects in tier-1 cities are revitalizing Grade-A office spaces, but secondary offices and lower-tier retail malls face persistent vacancies. Developers reliant on private financing are particularly vulnerable, as high borrowing costs and weak cash flows amplify default risks, according to the Mordor Intelligence analysis.

Strategic Diversification: Navigating the Risks

For investors, the path forward lies in strategic diversification. While office and retail assets remain illiquid, opportunities exist in logistics, C-REITs, and value-add refurbishments. Bruce Pang, a chief China economist, argues that the commercial real estate sector is unlikely to mirror the prolonged downturn seen in residential markets, according to the SP Global report. This optimism hinges on policy interventions and structural shifts, such as the C-REIT framework, which provides stable returns for institutional investors, according to the Mordor Intelligence analysis.

Yet, diversification must be tempered with caution. ACRE's financial metrics-despite a strong free cash flow yield-highlight the sector's volatility, with a net margin of -371.37% and a debt-to-equity ratio of 1.7, according to the GuruFocus report. Investors must balance exposure to high-growth logistics assets with hedging against office sector declines.

Conclusion

China's commercial real estate market is a study in contrasts: a struggling office sector weighed by defaults and a burgeoning logistics industry buoyed by policy and demand. Lenders' cautious stance, while prudent in the short term, risks deepening liquidity challenges. For investors, the key lies in leveraging structural shifts-such as C-REITs and e-commerce-driven logistics-while mitigating exposure to illiquid assets. As the market evolves, strategic diversification will remain the cornerstone of resilience.