Many investors with large capital gains from the residential property boom of the past six years are tempted to diversify offshore, encouraged by a strong rand and perhaps by residual Afropessimism.

The trouble is, it's the wrong time to invest in SA's usual first choices, the UK and Australia, where prices are falling.

Local company Leitch Chance has launched a service to find and manage offshore property investments in areas that do not traditionally interest South Africans.

Leitch Chance's first project is Talent Studios, being built in China's Shanghai, probably the fastest-growing city in the world. It's in a university area on the east of the Huangpu river, about 15 minutes from the new financial district of Pudong.

The developers are Shanghai Fudan Science Park, providing accommodation for their workers and for MBA students from Fudan University. The developers will rent the units back from investors for three years, giving them a 6,15% yield on their gross investment. Buyers can borrow up to 70% of the purchase price at 5,31%.

Except for the lower interest rate, the numbers will be familiar to South Africans: a 99 m² two-bedroomed flat costs the equivalent of R1 121 900, at R11 000/m². That's comparable to prices off-plan for flats in the Sandton CBD. Guaranteed income will be R5 799/month and a 20-year bond repayment will be R5 342/month.

On top of the basic deposit and 4,5% transfer duty of R352 340, a further R67 000 must be paid to cover both Leitch Chance's fee and a nonrefundable deposit of R36 443. "We insist on the deposit because demand is high for the properties and we must be sure buyers are serious," says Leitch Chance director Toby Chance. "But buyers who fail to raise finance have a good chance of getting their deposits back when we find a replacement buyer."

Buyers will get their first income quarterly in arrears in April next year.

The big attraction of Shanghai and its 20m population is rapid growth and soaring property prices. The city's economy has been growing at more than 10%/year for the past 13 years.

Property prices are rising faster - by 15,5% in 2002, 25% in 2003 and 17% last year. This is driven by migration from the countryside - 100m people have moved to China's cities in five years - and frenzied inward investment by Western and Asian corporations.

The property market has taken off as the Chinese government has liberalised the mortgage market.

Offshore investors are taking a currency risk as well as a property risk. The renminbi is tied to the US dollar and likely to fall with it in the near term. China is under pressure to increase the value of the renminbi against the dollar. If that happens, SA investors are likely to get a windfall increase in their Shanghai flats.

But the value could also fall during the next year or so. The head of the People's Bank of China (the central bank) says it is not yet time to increase the value of the currency.

There is other potential bad news. Morgan Stanley economist Andy Xie, who grew up in Shanghai, is convinced there is a speculative property bubble that is likely burst within months rather than years. He points out that most buyers are foreigners and speculators. "When Shanghai's bubble pops depends on when outsiders change their view of Shanghai, which would be a combination of money becoming more expensive and Shanghai hype fading."

But Chance says government statistics show that 80% of buyers in the city are local Chinese, 16% are Shanghai citizens living elsewhere, and only 4% are foreigners. He argues that the long-term picture looks attractive, with the Chinese government determined to make Shanghai the city of the 21st century and the next New York.

"Shanghai is expecting 75m visitors to the World Expo which it is hosting in 2010. This can only boost interest in the city," he says.

The property bulls also argue that executive flats at US$400 000 (R2,4m) are far behind prices in Hong Kong, New York and London, and will eventually catch up. But the key issue is affordability, and, says Xie, "on that measure Shanghai is three times as expensive as London or New York". He says the bulls claim that high land prices are driving the costs - but that ignores the possibility that speculative demand could dry up soon.

The dangers were revealed in 2003 when Shanghai authorities tried to dampen rapid price rises by prohibiting the sale of unfinished apartments. However, the rush of speculators to dump properties forced government to abandon its crackdown.

But the government's reason for its aborted action was to encourage long-term investment and discourage short-term speculation. If it succeeds in this intervention, it could make the city a good 10- or 20-year bet. That changes the investment focus from capital to income growth.

Leitch Chance doesn't give any information on what is likely to happen to rent at the end of the three-year guarantee period. Chance says that operating costs in China are low and he estimates the levy on the 99 m² flat will be R305. Assuming the rent has increased by 5% over the three years, the gross income will be R6 070 and the net income R5 765. That would still leave room for a small interest rate increase without going into negative cash flow. But that income should compound over the long term as China and Shanghai grow.

Shanghai and its extensive growth are worth serious investigation and no investment is without risk. That makes two good reasons not to rush into buying. There are many websites, including Colliers and Morgan Stanley, that cover the city in detail.

Financial Mail