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Expert Insights | Flight-to-quality dominates occupiers’ choice

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Kowloon East tops new supply while Island East dominates demand on Hong Kong island

  
Hong Kong’s office market remained soft during the city’s Fifth Wave of the COVID-19 pandemic, handing occupiers the rare opportunity to negotiate favourable lease terms that suit their business needs. Overall vacancies rose to 11% in H1 2022, drifted slightly higher than previous months, but affordable areas proved resilient as tenants looked to save costs and recalibrate their budgets.

Continuing trends 

The most significant continuing trend we see from occupiers is the ongoing continued flight-to-quality, in which tenants take advantage of lower rents and higher vacancy rates to move to prime areas or newer buildings of better quality in nascent districts. 

ESG is an increasingly significant factor in major corporates' decisions to move, especially internationals who are conscious of maintaining a sustainable profile. Buildings that can offer significant carbon savings, staff wellness benefits, and are primed for technology are usually top of the list.


"Buildings that can offer significant carbon savings, staff wellness benefits, and are primed for technology are usually top of the list.

 


Many of the existing buildings in the CBD are decades old, and although well-managed, they may need upgrades to adapt to new corporate goals. It is always a tough decision for a building owner to tear down an existing asset and lose rent for an extended period while the new asset is built. Considering the current higher vacancy of the existing buildings and slow leasing activities,  landlords may consider it a good time to refurbish their buildings. 

Usually, occupiers sign leases for around three years, sometimes a little longer. More tenants have explored the opportunity to lock in longer leases before rents increase. Landlords are more open to accommodating them, as longer leases also minimise their risk of vacancies. Some landlords might still be willing to sign rental protection agreements to spare tenants the shock of a rent surge. 


"Some landlords might still be willing to sign rental protection agreements to spare tenants the shock of a rent surge.

 


Central

Some businesses, primarily legal and financial, in the traditional CBD, are indeed seeking to lock in long-term leases for better quality at more affordable prices. Some may see the more realistic rents as an opportunity to expand their footprint in the world’s most expensive and prestigious real estate.

Sullivan and Cromwell LLP say on their website that their Hong Kong office is a strategic point for significant transactions involving mainland China and Asia Pacific companies or assets. They have moved from their stratified office at 9 Queens Road Central to Alexander House, under a portfolio developer's management. 

Wan Chai North

Central is not the only place on occupiers’ radar. Other districts have advantages, such as Wan Chai North and its newly opened Exhibition Centre MTR Station, which cuts around 15 minutes off travel from the New Territories. We have already seen more leasing activity in Wan Chai North. With this easier commute, it would be a good place for mainland companies once borders reopen, and landlords will see more willing tenants. 

Island east

One place occupiers might like to consider is Island East, strategically connected to the rest of Hong Kong by almost every mode of public transport and sports ample parking for those who like to drive. 

And, it could be argued that the biggest decentralisation deal since the SFC announced its relocation to Quarry Bay in late 2018, was Swiss bank. Julius Baer committed to four floors in Two Taikoo Place, the newest development in the submarket. Another new development, K11 Atelier Kings Road in Quarry Bay, also entices multinational occupiers with greenness, proptech and wellness factors. Its target tenants are creative industries like ad agencies.
With its current vacancy rate and ample new supply in the pipeline, Island East rents eased 5.6% YoY in Q1 2022 and are forecast to soften to 8% YoY by the end of 2022.

New supply

While it is true that we did see some momentum in the Grade A office rental market in H2 2021, it is unlikely that there will be a significant rebound this year due to the border issue, inflation and geo-political tension. 

Furthermore, some 4.6 million sq. ft. of new Grade A office supply will have entered the market by the end of the year. Interestingly, none of it will be in Central. The CBD’s big hurrah, The Henderson and Cheung Kong Centre II, will expected to be operational in the next year or so. The most significant slice of Island-based new Grade A office stock is in Island East, which has 22% of the overall total.

New Grade A Supply by District in 2022

Source: Colliers

The bulk of new stock will be in Kowloon East, with several large Grade A office developments completing this year, especially in Kwun Tong. KTIL 240 in Kwun Tong will provide around 487,500 sq. ft. of NFA in 2022. Not far from Kwun Tong, Nan Fung’s AIRSIDE in Kai Tak is expected to open by the end of the year, adding an NFA of approximately 944,000 sq. ft. Given the area’s modernity, these new stocks will likely prove very attractive to occupiers.

Looking ahead

In the short term, while people are still working from home and the border remains closed, we will continue to see an occupiers’ market. You could be correct to think this might not change for a while, but we can see Beijing is already easing pandemic restrictions, so now could be your opportunity to find the best space for you.


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Alex Lam

Executive Director

Office Services

Hong Kong

Alex has over 25 years experience in Hong Kong providing tenant advisory services to multi-national corporations and publicly listed companies He specializes in formulating and implementing real estate strategies for clients in aspects of office leasing negotiations, rent reviews and lease restructure.

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