1)  Mainland investors continue to fuel the buying spree for office acquisitions


News 
Mainland investors continue to snap up flagship properties in Hong Kong. Cheung Kei Group, a property investment firm controlled by the Shenzhen-based billionaire Chen Hongtian, has agreed to buy the East Tower of One Harbourgate in Hung Hom for HKD4.5 billion (USD577 million) or HKD16,071 (USD2,060) per sq ft based on a total gross floor area of 280,000 sq ft. This deal followed his purchase of a house at 15 Gough Hill Road in The Peak in June, paying a record price of HKD2.1 billion (USD269 million). The sale of One Harbourgate East Tower, a 15-storey office tower with adjoining retail space, comes just eight months after the sale of West Tower to China Life Insurance (Overseas) for HKD5.85 billion (USD750 million) or HKD14,885 (USD1,908) per sq ft. (Source: SCMP, 19 July 2016)

Research view 
One of the attractions of acquiring office blocks in Hong Kong is that it represents a simple form of offshore investment to diversify against a widely perceived risk – the possibility of further depreciation of the Chinese renminbi. While the impact of the UK’s Brexit vote on different foreign currencies is still unfolding, we expect more capital to flow back to assets dominated in safer currencies, e.g. the US dollar, Hong Kong dollar and Japanese yen. With regard to Hong Kong, we believe that the city has the loosest monetary policy in Asia in real terms (i.e. adjusted for inflation), with a real interest rate of around –2.1%. Negative real interest rates in Hong Kong are likely to persist for some time in the light of post-Brexit economic uncertainty, which we expect to delay increases in global interest rates. Indeed, we now think that real interest rates in Hong Kong may not turn positive again until 2H 2018. This helps explain why enquiries for core investment properties in Hong Kong have been rising, with strong interest in offices. We expect more activities to emerge in 2H 2016 with yields plateau at very tight levels.

Valuation and Advisory Services view 
In the past 12 months, a total consideration of more than HKD30 (USD3.8) billion of commercial assets was transacted in the market, with Mainland buyers making the biggest contribution. Mainland investors are targeting premium Grade A office buildings in Hong Kong, especially those with scenic views, naming rights, close proximity to MTR stations and a floor plate size over 10,000 sq ft.


2)  Increased RFP activity for office restacking projects


Agency view 
Request for proposal (RFP) activity is on the up from occupiers who are looking either to consolidate their operations, or to increase capacities within their existing footprints, in order to to control rent and occupancy costs in the short term, while uncertain market conditions play out. Requests to support tenants in understanding their current utilisation in order to find opportunities and efficiencies are all part of these RFPs –  something we are seeing more often now that occupiers are being forced to think “outside the box” for more creative real estate solutions to meet their current and future operational needs.

Research view 
The gloomy global economic outlook, with the International Monetary Fund revising down its growth forecasts for all regions except mainland China and developing Asia in April this year, will likely see business sentiment weaken further. This could negatively impact the property market in Hong Kong despite the increasing probability that negative real interest rates will persist for some time. We expect rents in Central and Admiralty to be stable or increase slightly, while vacancies should remain low owing to the slower but still active demand from mainland companies. However, the Kowloon market is likely to face downward pressure, particularly in Kowloon East due to cost-cutting and downsizing efforts by cost-sensitive tenants, mainly in the sourcing industry. Another factor is a glut of new supply. We expect Kowloon East to see new supply of around 3 million sq ft of office space next year, for which pre-leasing activity should commence this year. Owing to the weakening economic outlook and increasing supply in 2017, we expect overall Grade A office rents in Hong Kong to be stable in 2H 2016. For the whole year, overall Grade A rents in Central and Admiralty will grow 5.5%, Island East will grow 4.8% but Kowloon East will drop 4.8%, by our estimates.


3)  Primary home sales in Ho Man Tin and Hung Hom energise Kowloon’s market

News  
Over the past 12 months, Ho Man Tin and Hung Hom have been the key drivers of Kowloon’s home sales in the primary market, with more than 600 apartments sold during the period, according to figures from the Land Registry. The largest contributor to central Kowloon’s home sales was the second phase of Sun Hung Kai Properties’ Ultima project in Ho Man Tin, with at least 205 deals, including the sale of two duplex units in May. The average unit price for the units was about HKD28,500 (USD3,654) per sq ft , while the duplexes fetched about HKD41,200 (USD5,282) per sq ft.

The Stars By The Harbour project, located at 7 Hung Luen Road, Hung Hom, came in second with about 157 deals, out of a total of 321 units, at about HKD20,000 (USD2,564) per sq ftsince August last year. William Kwok Tsz-wai, a director at Cheung Kong Real Estate which runs the project, says another 15 units in Block 5 have been released for sale, prices of which have been marked up by 3%. (Source: SCMP, 22 July 2016)


Research view  
With negative real interest rates persisting and the pace of interest rate increases likely to slow, the Hong Kong residential market has stablised despite growing global economic worries. As a core scenario, Colliers expects that average residential home prices will gradually deflate over the next few years, falling by up to about 10% in 2016 and with further modest declines thereafter. Very stretched measures of affordability point to a potential decline in prices of about 30% over the next three years. While this negative scenario cannot yet be ruled out, it would be most likely to materialise in the event of a hard economic landing in China, which we do not currently expect.



4)  HK Retail seeing the light at the end of the tunnel

Agemcy view
Shopping mall and high street landlords are coping with and responding to the new demand in the market for creative shopping experience. Grade A mall landlords are continuing to revamp the tenancy mix and structuring flexible lease terms to brands which can enhance the shopping experience for consumers. Street landlords are increasingly negotiable on rental terms and flagship shop owners are becoming more creative to welcome short term leases. Pop-up stores and themed events are increasingly popular nowadays, especially with gimmick operators which landlords can utilise from time to time to enhance traffic and create a buzz in the market; at the same time this will not affect the permanent rental positioning of the retail asset. For example, recently, Harbour City has launched a Smurfs exhibition and IFC has put a large scale crocheted playscape by internationally renowned Japanese textile artists in the centre of the mall. We can also see the newly opened Shiseido pop-up store on Wellington Street and the Gentle Monster eyewear brand under a short term lease on Yun Ping Road, following Nike id.


Research view
The retail market is undergoing a structural transformation from one that is highly driven by luxury consumption goods to one that is more relying on mid-market brands and products. Mass market brands, such as fast fashion, activewear, cosmetics, food and beverages operators, as well as affordable luxury fashion brands, have become more active in looking for retail spaces. Overall prime street rents have dropped back to the level of Q4 2010, and we predict rents of prime high-street shops will fall another 10% in 2016, following a 24% decline in 2015.

 

likely to be stable over 2016, with expansion from 2H 2017

Agency view (Strata-titled Sales)
In the past week, 4/F at No.9 Queen’s Road Central was sold for HKD370 (USD47) million, or a unit price of HKD 27,000 (USD3,462) per sq ft, with sales and lease back condition. Sales activity of strata-titled offices should remain steady is the near term.

Research View
We expect Hong Kong office property yields to stay at about 3% over most of 2016, and only to start expanding once US interest rates start rising sharply. Despite deteriorating business confidence, we believe capital values in office property will hold up well for two reasons. The first explanation is that real interest rates in Hong Kong (currently about -2%) will stay negative for some time yet, since interest rates in the US – which Hong Kong rates follow closely as a result of the currency peg – look set to rise gradually rather than rapidly. The second reason is the simple fact that too much capital is chasing too little stock in the Hong Kong office property market. However, we expect office sector capital values to start declining in 2H 2017, by which time real interest rates should have returned to positive territory. This change should cause office property yields to start expanding.


3)  Office yields likely to be stable over 2016, with expansion from 2H 2017

Agency view (Strata-titled Sales)
In the past week, 4/F at No.9 Queen’s Road Central was sold for HKD370 (USD47) million, or a unit price of HKD 27,000 (USD3,462) per sq ft, with sales and lease back condition. Sales activity of strata-titled offices should remain steady is the near term.

Research View
We expect Hong Kong office property yields to stay at about 3% over most of 2016, and only to start expanding once US interest rates start rising sharply. Despite deteriorating business confidence, we believe capital values in office property will hold up well for two reasons. The first explanation is that real interest rates in Hong Kong (currently about -2%) will stay negative for some time yet, since interest rates in the US – which Hong Kong rates follow closely as a result of the currency peg – look set to rise gradually rather than rapidly. The second reason is the simple fact that too much capital is chasing too little stock in the Hong Kong office property market. However, we expect office sector capital values to start declining in 2H 2017, by which time real interest rates should have returned to positive territory. This change should cause office property yields to start expanding.