20140822 HK residential supply outlook: Tseung Kwan O, Tai Po, Yuen Long hardest hit

HK residential supply outlook: Tseung Kwan O, Tai Po, Yuen Long hardest hit

The newly published Hong Kong Property Review 2014 provides new data evaluating the future residential supply by district. The author takes this opportunity to analyse the information and highlight favoured and disadvantaged districts for the benefit of potential buyers.

Generally, districts with abundant supply will see purchasing power diluted by the new completions, thereby weakening the momentum of home price increases. The author adopts two measures in his analysis: 1) the ratio of new completions to current stock to measure degree of such supply abundance, and 2) the ratio of theoretical rise in vacancy rate (due to new supply) to starting vacancy rate. These two metrics help evaluate the relative strength of the new supply, and then ranked the districts according to these two indicators. The result is tabulated below:

Table 1: Future supply and theoretical vacancy rates – Buy blue areas and avoid red ones

Eastern, Southern and Kwai Tsing are the low supply districts for 2014-15

The R&V Department’s forecast completions suggest that Eastern, Southern, and Kwai Tsing will be the least supplied districts: these districts have the lowest “rise vacancy rate” and “ratio of rise in vacancy to starting vacancy” by the end of 2015, indicating they are the districts least affected by new supply (blue shades in Table 1). This will no doubt be supportive for home prices in these 3 districts. Looking at price performance, major housing estates in these districts saw prices rise by 4% YTD, and are expected to further outperform (Chart 1).

Chart 1: Trend of Centa-City Index of best 3 regions, worst 3 regions and the overall index

Vulnerable districts: Tseung Kwan O, Yuen Long, Tai Po
Tseung Kwan O (falls in Sai Kung District), Yuen Long and Tai Po look to be the most vulnerable districts (red shades in Table 1). These three districts are also plagued by supply over the past three years too, with a host of developer projects coming to the market, including Providence Bay, Mont Vert, Hemera, Tseung Kwan O zone 66 etc, which kept vacancy rates at elevated levels. Without new buying demand from other parts of Hong Kong, these three districts could see vacancy rates reaching double digits in the next two years. Year to date, home prices of leading real estates in these three districts have risen less than the low supply districts (Chart 1).

It should be pointed out that the above analysis only makes use of expected vacancy rates, while the property market is influenced by other factors, including location, presence of public housing, interest rates, government policies, etc. Vacancy is buy one of the many considerations when investing in property and buyers should base their decisions after considering all factors.

Administrative intervention caused the market failure
Since the end of 2009, government intervention in the housing market has not stopped – from restricting Loan-to-value (LTV) ratio for luxury homes through to the latest legislation on Double Stamp Duties (DSD). These measures have twisted the market’s pricing mechanism, causing prices of small/medium sized units to irrationally rally while prices of larger units languished. 

During 2006-2009, when property prices were determined by supply and demand, large units (where inventory was the lowest, and where the government should be supplying more land) saw the biggest rise in prices (Chart 2). However, the well intending bureaucrats, from 2010 to 2013, small flats where most trading up from should be taking place, witnessed the biggest rise in prices, thanks to government policies to provide easy credit to small flats buyers and the ‘HOS-for-secondary-market-white-form-buyers’ policy (Chart 3).

Chart 2: Before intervention, large units saw faster price rises than small units

Chart 3: After intervention, small units had higher price increases than large units

The road to hell is paved with good intentions – the saying seems particularly appropriate to the HK housing market. As dysfunctional anti-market policies creates ever more imbalances in the market, the future supply will inevitably be more and more detached from the real needs of the HK people.

Table 2: Home prices in leading estates before/after government intervention

Special thanks to Mr Leung Kai Hong in assisting the collection of data and charts related to this article.

20140821 Central office rent to rebound soon?

Central office rent to rebound soon?

Central Grade A office rents have been in a secular rising trend since records began (except from 1998 to 2003), as shown by the dotted red channel in Chart 1. Since peaking in Dec 2011, Central rents have been in a correction cycle, falling 26% to around HK$81psf by February 2014 (orange dotted channel in Chart 1). From a technical perspective, the correction cycle could continue to early 2015 unless rents rise above this orange corridor.

Chart 1: The trend of grade A office rent in Central

Would fundamental analysis lead to similar conclusions on the future direction of office rents? The rest of this article will discuss various fundamental factors driving office rents.

Rents move in line with unemployment rate

Offices are the places where employed workers do their jobs. If follows therefore that when unemployment rate increases, office vacancy will also rise, and vice versa. Except during times of very abundant new supply (e.g. in the 90s, when vacancy rate outpaced unemployment rate – see red shaded area in Chart 2), movements in vacancy rates and unemployment rate were highly correlated, this was especially the case after 2003, when supply was particularly low (blue shaded area in Chart 2).

Chart 2: Unemployment rate and grade A office vacancy rate are closely related

As a result, when one can accurately forecast future economic and employment conditions, one could also make reasonable predictions on future office rent. One leading indicator which helps in gauging future unemployment rate is the Purchasing Managers Index (PMI).

The PMI reading typically precedes unemployment rate by six months (Chart 3), which allows us to estimate the direction and magnitude of change in unemployment rate. From latest PMI reading, unemployment rate could rise from current 3.4% levels to 3.5% in the next 3-4 months before settling back at 3.4% level at the end of this year (Chart 4).

Chart 3: PMI helps to forecast the future unemployment rate

The Global Financial Crisis in recent years have weakened business activities for the financial industry in Central, in contrast to the fringe office districts, which are inhabited more by retail and tourism industries, as well as the booming construction industry. As a result of this shift in dynamics, the premium of central office rents has been declining, after having reached a “double top” formation in 2008 and 2012, reaching 1.6 in 2014 (Chart 4; blue line)

Chart 4: Central Grade A office rent premium has shown close correlation with unemployment rate since the handover

Strong capital markets to benefit Central rent premium

However, with the current rebound in capital market activities from the lows in 2012, and a weakening momentum in mainland tourist arrivals, the time may have returned for an increase in Central office rent premium. When the stock market turnover is high, demand for financial services should also be good, and therefore benefit demand for Central office space. Applying this logic to the stock-turnover-to-GDP ratio, it is unsurprising that the ratio (blue line in Chart 5) closely relates to Central office rent premium (red line in Chart 5).

Chart 5: Rebounding stock turnover should lead to higher premium in Central office rents

From technical perspective, it is also worth noting that the stock turnover to GDP ratio line have decisively bounced off the long term resistance (now support) line (the upper blue dotted line), and is apparently forming a upward moving second technical support line (the lower blue dotted line). Further, the Central premium line has also risen back to its long term trend boundary, suggesting increases in the coming months. Whether absolute office rent in Central goes up or down in the near future, it will most likely outperform office rents in Causeway Bay (red arrow in Chart 5)

Other than stock turnover, equity fund raised is also useful in judging the future trend of Central office. The annual change in fund raised generally leads variations in Central rent premium - as a result, the 20%-plus growth in equity fund raised in 2013 points to high single-digit growth in Central rent premium in 2014 (Chart 6).

Chart 6: Growth in equity funds raised is followed by increased office demand in Central

Growth fuelled by the tight supply

According to the latest Hong Kong Property Review 2014 published by Rating and Valuation Department, new completion of Grade A offices in Central and Western District is almost zero. In contrast, Kowloon City, Tsuen Wan and Sha Tin districts will face big supply coming to the market (Table), further supporting our thesis of Central rental outperformance.

Table: Grade A office supply ranking

From the supply point of view, Central Grade A offices enjoys distinct advantages in next two years, corroborating the preceding analysis. So the conclusion that follows might be: tenants should renew leases as soon as possible, landlords should delay renewals as much as possible, while investors should put Central offices on their radar screen.

 

Special thanks to Mr Chiu Kwok Yan in assisting the collection of data and graphs