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Greater Bay Area: A spotlight on Shenzhen

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Shenzhen is a global Alpha Minus (A-) city flying under the radar, and with a GDP growth rate of 7.6% in 2018, it is the fastest growing tier-one city in China.

In that year, seven of the 120 Chinese companies of the Fortune Global 500 were based in Shenzhen and accounted for 13.7% of the total profits from these 120 companies; furthermore, the Shenzhen Stock Exchange is home to more than 280 companies with total assets exceeding RMB21 trillion (USD3 trillion).

The city’s robust economic growth and development have made it particularly attractive to overseas companies, resulting in Shenzhen’s foreign direct investments to more than double between 2009 and 2018. The city’s rapid rise caught global attention in 2018, when Shenzhen was ranked as an A- city by the Globalization and World Cities Research Network, alongside San Francisco, Amsterdam, and Washington D.C.

Now, as one of four core cities in the Greater Bay Area’s development plan, we expect Shenzhen’s property market to leverage a rapidly growing economy to become the next gateway city for international institutional investors.

Real estate opportunities in Shenzhen

Based on our Colliers Annual Investor Survey 2018, Hong Kong based institutional investors expressed an increasing interest in the GBA, with 40% of participants looking to invest in GBA cities in 2019. In turn, the completion of two major infrastructure projects in Q3 2018, the Hong Kong-ShenzhenGuangzhou Express Rail (XRL) and the Hong Kong-Zhuhai-Macau Bridge (HZMB), coupled with the GBA’s Development Plan, have increasingly made the GBA a more popular destination for Hong Kong based investors.

Shenzhen is known for having an industrial base in innovation and technology. More recently, emerging industries comprising of 10 tech-related industrial sectors (Artificial Intelligence, Internet, Culture & Innovation, among some others), accounted for almost 40% of the city’s total GDP, the added value of these industries increased by 11.4% YOY in 2017.

With more and more investors showing interest in Shenzhen, the city has become the second most popular place for property investments outside of Hong Kong, according to the Colliers Investor Survey. Within the next five years, we expect Shenzhen to see an increase in the number of active Hong Kong and foreign based investors, as well as an increase in the number of transactions involving foreigners.

In addition to the Grade A office sector, we believe new investment opportunities will appear, notably in urban renewal projects and the conversion of old industrial zones into new business parks. Shenzhen’s government is promoting the housing rental market, which will likely make this sector a new focus for investment.

The office sector

Affected by the US-China trade war, the leasing market for Grade A offices in Shenzhen has decelerated, resulting in a full year rental growth of -0.6% in 2018. Still, we expect two submarkets to have a promising performance.

  • Qianhai, which despite having the largest new supply in Shenzhen – exceeding 2 million sq m (21.5 million sq ft), will have a limited new supply available for leasing due to the expectation of a large portion being owner occupied. As the future CBD of Shenzhen, we expect that rents will continue to increase following the completion of new infrastructure, with yields likely to improve gradually. Investors can also look forward to capital appreciation in the longer term.
  • Luohu, Shenzhen’s oldest office district, currently undergoing a largescale urban renewal. We expect a large amount of new supply to become available over the next 5-10 years, which should drive the demand for quality office space, as well as rental growth. The Caiwuwei area has three skyscrapers planned, each having a building height of more than 600 meters.

    Over the next three years, we expect economic growth to spur office demand, pushing the city’s net absorption to an average of 1 million sq m annually (10.8 million sq ft). By the end of 2018, Grade A stock increased to 5.79 million sq m (58.6 million sq ft); and from 2018 to 2021, we expect the new supply in Shenzhen to exceed 6 million sq m (64.6 million sq ft), more than half of which is planned in Qianhai. Although the vacancy rate would temporarily increase to 29% in 2019, the excess stock should be quickly absorbed by the market. We therefore expect office rents to continue to rise steadily at about 3% annually for the next five years.

Industrial and business parks

There are more than 200 business parks in Shenzhen, which comprise different types of properties, including decentralized industrial campuses and Grade A office buildings, making the distinction between a business park and office building developments at times ambiguous. Currently, a business park generally refers to properties that are either built within an industrial zone or office space used for R&D activities.

Business park developments have followed Shenzhen’s industrial development policy. Individual parks must target a set of industrial activities and, as a result, have become an aggregation of tenants sharing similar industrial backgrounds, such as AI or the technology, media and telecommunications sectors.

Over the next five years, urban renewal should convert 100 traditional industrial areas and release 6.75 million sq m (72.6 million sq ft) of new land for emerging industries in the form of business parks. We believe Che Gong Miao in Futian District is one of the most promising submarkets.

Near the Futian CBD, Che Gong Miao has already achieved rents comparable to nearby Grade A offices.

Also within the next five years, more than 3 million sq m (32.2 million sq ft) of top-quality new office space is schedule to enter the market from different business parks, focusing on tenants in finance, fintech, and business services.

However, government-imposed restrictions on business park investments, including looking into the background of tenants and buyers, maintaining strict regulations on future transactions, and limits on future property upgrades have been put in place to discourage speculation. Hence, we expect the property price will only increase moderately with the gross yield for business parks to be about 5% for the next five years with a steady rental growth potential.

Long-term leasing market – Regulations

Shenzhen’s residential market price recorded the fastest growth among all Chinese cities in the past five years. To restrain property price growth, on July 31, 2018, the Shenzhen government announced the so-called 731 policy, which can be summarized in the following four key points:

  • Enterprises are prohibited from purchasing residential properties.
  • Any newly purchased condo property, or residential units in a commercial zone, cannot be sold within five years of acquisition.
  • Residential properties, whether first-hand or second-hand, cannot be sold within three years of acquisition.
  • Newly developed condo properties will have to be operated as leased residential property and no strata-unit sales are allowed.

In 2018, the new policy and strong leasing demand drove the long-term leasing market into high gear. Developers quickly became key players in the long-term leasing market. While brokers and residential property management companies, the downstream players in the chain, found new ways to pitch in. Although this market has just emerged, participants have already made some aggressive moves to secure their market share.

Still, the new 731 policy specifically stipulates that developers of newly developed condo properties must retain the ownership and operate as leasing units, encouraging an en-bloc holding approach to the newly developed condo properties and further encouraging the transfer of such properties into long term leasing arrangements.

We believe the new policy provides another entry opportunity for foreign investors who are confident in Shenzhen’s long-term growth prospects.

Shenzhen should see a strong influx of highly-educated employees looking to lease quality properties. Although the market is relatively nascent, we expect the long-term residential leasing market to grow to be one of the most promising markets in Shenzhen.

Looking to invest?

While most foreign institutional investors are still very much focusing on Beijing and Shanghai due to a deeper liquidity and a larger supply of stocks, we except greater focus to be placed on Shenzhen as the GBA plan rolls out. We do recommend investors interested in Shenzhen to closely follow the latest developments in the office, business park, and long-term residential leasing markets. However, as Shenzhen’s economy remains sensitive to the on-going US-China trade disputes, the result of the current round of negotiations could affect the investment market sentiment in 2019.

If you would like to know more about current investment opportunities in Shenzhen, please do let me know at daniel.shih@colliers.com. I will be happy to sit down and discuss the current situation in this fast growing city.

This post was originally posted in the May Issue of Office Insider.