Don’t read too much into the rebound in Hong Kong residential market
Research View
Despite the fact that sales of homes increased 2% month-on-month to 4,586 in May, transactions decreased 11% from a year ago and present a stark contrast to the long-run monthly average of around 8,000 transactions. The persistence of negative real interest rates may be helping the market to stabilise: home prices rose 0.7% month-on-month in April after falling for six months. Home prices have fallen about 11% from their peak level in September 2015 to the present. However, the likelihood that the US will increase rates in June will probably dampen buying sentiment. More fundamentally, homes are still essentially unaffordable: Hong Kong's price/household income ratio stands at 19x, the highest level in the world. We expect residential prices to deflate over the next three years as interest rates normalise and as supply increases to around 23,000 units per annum. A reversion in affordability to the historic average would imply a decline in prices of perhaps 30% over the next three years or so. This negative scenario cannot yet be ruled out.
Valuation and advisory services view
On 31 May 2016, the tender sale of a Tsing Yi residential site fetched a lower-than-expected accommodation value (i.e. price) of HKD1,980 (USD254) per sq ft (based on a maximum GFA of circa 474,200 sq ft). This is due to the potential cost arising from slope maintenance and challenges on the full utilization of the commercial GFA. At present, some developers have lowered the profit margin that they assume in the bidding process to reflect the extended time for asset disposal amid weak market sentiment.

COAMC paying HKD160 per sq ft for 36/F at One IFC

Agency view (Office services, Hong Kong)
Despite China’s economic slowdown, demand for premium Grade A office has proved firm due to the strong desire of Chinese companies to secure space in Hong Kong. A state-owned financial institution – China Orient Asset Management Corporation (COAMC) has outbid four other PRC firms and successfully leased the entire 36/F (18,000 sq ft) at One International Finance Centre (IFC), paying a rental of about HKD160 (USD20.5) per sq ft. So far this year, leasing activities from PRC companies have been slowing, largely due to the extreme shortage of space in Central. We believe any stock that becomes available in Premium Grade A buildings will be absorbed immediately.

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.

Rich Chinese millennials favour Japan, France for luxury tourism

News
France and Japan are the most popular global destinations for affluent Chinese millennials who value cultural sophistication and high-end shopping, according to a report on luxury travel. Chinese tourists spent more than USD215 billion on foreign travels in 2015, 53% more than the prevision year, becoming the world’s largest outbound tourist group, according to the International Tourism Organisation. The report on affluent Chinese travellers born after 1980 indicated that food lovers ranked Japan highest, while France was viewed as a shopping paradise. Australia was the third most popular destination. The report is based on a survey of 525 young luxury travellers, defined as those who spend over RMB200,000 (USD30,400) annually on travel and tourism. More than half are the second generation of wealthy family or heirs to a family business. (Source: Financial Times 30 May 2016)

Research view
The Hong Kong retail sector faces difficult times, due in part to falling tourist traffic. Tourist arrivals fell 8.8% year-on-year over the first four months of 2016, with Chinese visitors down 12.6% as the Chinese renminbi remained weak. As a result, retail sales fell 4% last year and will probably fall at least 6-7% this year. The recent recovery in the Japanese yen against the US dollar from last year’s average level of 121.1 to the present level of 106.6 is further bad news for the retail sector, since Japanese goods are popular in Hong Kong and the higher cost of buying goods in Japan is affecting retailers’ profit margins. As a consequence of these negative factors we expect Hong Kong retail sector rents to fall by 10% in 2016, and the value of retail properties to fall by 24%.