Hong Kong house prices defy economic slump

The former colony's perennial fascination with property appears immune to even the deepest of recessions.

It's hard not to feel sorry for someone looking to buy an apartment in Hong Kong since there never seems to be a right time to buy. If prices are going down, there will always be someone who says that property is still overpriced; but if the market is going up, another person will say that the rise is unsustainable and that it will quickly come crashing down. Given how volatile house prices in Hong Kong are, both stories can seem plausible.

Over the past six months, this unpredictability factor has become even more of a headache. Hong Kong is in the midst of a deep recession, people are losing their jobs, and it looks as though it will take some time for the situation to get better. So apartments should be getting cheaper, right? Wrong. By the end of June, residential property prices were up 15% year-to-date, and had recovered part of the 23% lost in the second half of last year.

To make things even more unusual, rental yields declined in the same period. "Property prices and rental yields normally move in the same direction, although there might be a lag time of about three to six months," said Simon Lo, director of research and consultancy at Colliers Hong Kong office.

And this is not a statistical anomaly born out of a quiet market, because people are out shopping in large numbers. Local property agent, Midland Realty, estimated that residential sales volumes reached 13,000 transactions in May, the highest number since the most recent peak of the market in February 2008.

Reasons to get on the ladder

Such an unusual trend is supported by a range of contributing factors. "By buying property, people are going back to what they know," said Matt Nacard, head of regional property research at Macquarie. "It's a transparent market and the affordability is currently quite good."

And to some extent, he said, there are limited choices available to Hong Kongers who want to make a return on their savings: interest rates are so low that there is little incentive to leave money in the bank and complex financial products, as an alternative, are less popular. Local banks have plenty of money to lend, so they are aggressively pushing mortgages on to the public.

Low interest rates also mean that the holding cost for landlords is low. They might not be getting the yields they enjoyed a year or two ago, but their mortgage payments are cheaper. Most landlords are therefore not losing money, or not much, so they are not offloading their properties into the market, which is helping keep prices afloat.

Interest from mainland China remains high as well, especially in the luxury residential sector. Not only is owning an apartment in Hong Kong something of a status symbol for many Chinese people, it also goes a long way towards acquiring the benefits of a residency permit. The mainland dynamic is exacerbated by the fact that credit in China is currently plentiful and easy to acquire. As a result, demand from over the border is estimated to account for anywhere between 10% and 20% of the purchases, much more than the historical average of around 5%.

The final reason for the buoyant market is that there remains a lot of pent up demand. Many homeowners were considering upgrading their apartment last year, but were put off by the uncertainty of the financial crisis. Now that some semblance of stability has returned to the world, more people are willing to take the plunge.

Can you stand the heat?

The strong property prices took both average Joes and industry analysts by surprise. The question that many are now asking is whether the market is already too hot.

Early last month, Macquarie changed its Hong Kong 2009 residential price forecast to expected growth of between 15% and 20%, from its earlier prediction of a 10% to 15% decline. With 15% of that already achieved, there could be further gains as high as 5%. Behind this prediction are the expectations of significant asset price inflation, the government's high land price policy, continued mainland demand and the persistence of low interest rates. And there is the idea that the initial recovery is supported by the return of first-time buyers, which creates a strong foundation for the subsequent return of investors.

Other analysts have the same sentiment: "For the rest of the year I think that residential prices will remain stable. After a 20% to 30% rebound from the trough, it is more and more difficult for prices to go up," said Marcos Chan, Jones Lang LaSalle's head of research for the Greater Pearl River Delta. He also predicts as much as a 5% rise before the end of the year.

And some analysts are downright bearish. In a report published at the end of May, Citi's property team declared that the recovery could be a mini housing bubble, which will "spur prices beyond the means of an average household".

One hypothesis considered by Citi is that prices will rise by another 15% to match peak levels in spring last year. While this could happen in the near-term due to the abundant levels of liquidity in the system, the bank questions whether it could be sustained. The best case scenario is that the prices stay at this level. According to Citi's base case, however, prices could quickly go up by 15% only to come back down by between 10% and 15% within the next 12 months. The worst case scenario however, is for prices to just drop from the current level by 25%. This is likely, Citi said, if household income drops by 10%, which would occur if an economic recovery failed to happen in 2009.

With experts predicting near-term swings of up to 25% in prices, it looks as though volatility is likely to remain a defining characteristic of the Hong Kong property market. The recent rise in house prices have in many ways defied common sense -- and if the present starts resembling the past again, prices could head downward very quickly.

This article was first published in the July issue of FinanceAsia magazine.

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