Hong Kong Property Market Could Be In For Major Correction

Hong Kong´s residential property market has risen relentlessly for four years, but a severe price correction now threatens. A combination of a surge in new supply, cooling measures, …

Hong Kong´s residential property market has risen relentlessly for four years, but a severe price correction now threatens. A combination of a surge in new supply, cooling measures, and an impending interest rate rise – dubbed the “perfect storm” by the country’s finance secretary – looms over the country’s property market.

Residential property prices in Hong Kong are still rising, but at a slower pace. House prices rose only 4.28% year-on-year (y-o-y) to end-July 2014 (0.22% inflation-adjusted), a stark contrast to the 18.92% year-on-year increase in July 2013 (11.22% inflation-adjusted), according to the Ratings and Valuation Department (RVD).

In addition, political tensions are ramping up, with Occupy Central electoral reform protesters threatening to blockade Hong Kong’s Central Business District. Hong Kong’s negative quarter-on-quarter economic growth of 0.1% in the second quarter is also worrying. Year-on-year, the economy has expanded by a meagre 1.8%, the lowest growth since the third quarter of 2012.

But the gathering storm-clouds have not yet roiled the markets. In fact, money has been piling up in Hong Kong, boosting property and stock prices and putting the Hong Kong dollar’s peg to the U.S. currency under strain.

Since the beginning of last month, the Hong Kong Monetary Authority (HKMA) has had to sell almost 70 billion Hong Kong dollars ($9 billion) as an influx of funds pushed the Hong Kong dollar to the upper end of its peg trading band. The HKMA is obliged to intervene to keep the Hong Kong currency trading between 7.75 and 7.85 to the U.S. currency.

Property sales have been booming. Just this August, sales rose 82.33% y-o-y to 6,212.

Property prices in Hong Kong have surged 117.2% (89.5% inflation-adjusted) from December 2008 to December 2012, driven higher by a flood of money from developed markets´ central banks in the wake of the global financial crisis.

But investment banks have long forecast a correction in home prices, and remain cautious.

“The question is can we continue to sustain this type of volume for the next one or two years,” said Barclays property analyst Paul Louie, referring to the recent demand in the new home market. “We still think home prices are very unaffordable in Hong Kong and we continue to look for a 30 percent correct [sic] by the end of 2015.”

Adds property analyst Jason Ching of Deutsche Bank: “Once the pent-up demand gets exhausted, things should return to normal because the economy is an issue, new supply is on the rise and the rate hike is coming closer.”

Prices continue to increase but at a slower pace
In 2009, while property prices were taking a nosedive across the U.S., Hong Kong’s housing market was going into overdrive.
  • In 2009, property prices rose by 28.5% (26.6% inflation-adjusted)
  • In 2010, house prices rose by 21% (17.6% inflation-adjusted)
  • In 2011, house prices rose by 11.1% (5.1% inflation-adjusted)
  • In 2012, property prices rose by 25.7% (21.2% inflation-adjusted)

Hong Kong’s property market has become the world’s most unaffordable, according to a Demographia International Housing Affordability Survey, published in January. Average home prices were 14.9 times gross annual median household income, the highest level ever recorded in the survey´s 10-year history.

Demand has been propelled by a combination of stringent government regulations on development, low interest rates, and currency stability; while the supply of land, which the government controls, continues to diminish.

Hong Kong has introduced a string of measures to curb residential property prices:
  • In November 2010, the government imposed a ´flip tax´ of 15% on properties resold within six months, and doubled stamp duties to 8.5% on properties worth HK$20 million (US$2.6 million) or more.
  • On October 26, 2012, the government introduced a Buyer’s Stamp Duty (BSD), imposing a 15% tax on property purchases made by foreigners.
  • In February 2013, the government doubled the stamp duty on all property transactions worth more than HK$2 million (US$257,902), though this measure ended in May 2014.

These government regulations have reined in prices to 4.3% y-o-y to end-July 2014 (0.22% inflation-adjusted), according to the Ratings and Valuation Department (RVD).

The slight increase in prices mainly comes from strong pent-up demand from end-users exempt from the cooling measures.  The luxury market, on the other hand, has lost momentum in the absence of external demand from investors and wealthy mainlanders affected by the government´s measures. Foreign buyers and investors buying through companies account for only 4% of transactions over the past two months, according to data from Inland Revenue´s Buyers Stamp duty receipts.

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Unsurprisingly, smaller-sized residential properties have experienced the highest growth in prices. During the year to July 2014, the average price of apartments smaller than 40 sq. m. rose by 5.4% and by 3.8% for 40-70 sq. m. apartments. Meanwhile, average prices grew by a miniscule 0.7% for 70-100 sq. m. apartments, 0.5% for 100-160 sq. m. apartments and declined 1.9% for apartments larger than 160 sq. m.

Less than 40 sq. m
40 – 69.9 sq. m
70 – 99.9 sq. m
100 – 159.9 sq. m
Greater than 160 sq. m

Source: Ratings and Valuation Department (RVD)
*Kowloon figures were for September 2013


Property analysts are unanimous in expecting Hong Kong property prices to fall during the remainder of 2014 or in 2015.
  • Morgan Stanley expects residential property prices in Hong Kong to decline by about 10% in 2014.
  • Colliers International expects prices to drop 5% for mass residential properties and by 7% for luxury properties in 2014.
  • Merrill Lynch of Bank of America Corp. projects Hong Kong home prices to fall by 5% this year and another 15% next year.
  • UBS AG expects property prices to decline by 5% by end-2013, before falling by 15% to 20% next year.
  • Deutsche Bank´s Jason Ching forecasts a 15% drop in prices this year.
  • Barclays property analyst Paul Louie forecasts a 30% plunge by the end of 2015.

“Some adjustments are necessary,” said the IMF’s Asia and Pacific director last month, referring to Hong Kong’s property market. Rhee suggested that Hong Kong should mull easing some of its earlier market-cooling measures to minimize the impact of the U.S. interest rate hike – a view supported by Financial Services and Treasury Secretary Ceajer Chan. The U.S. Federal Reserve will most likely increase interest rates around June or July 2015 after the conclusion of its tapering program.

Sales are up but may not be sustainable

Due to government measures imposed in 2012, transactions fell 37.7% during 2013, based on RVD figures, while sales values fell by 33.9% y-o-y to HK$300 billion (US$38.7 billion).

But in recent months, slowing price increases have stimulated sales

in both the primary and secondary sectors, as did the May 2014 easing of the Double Stamp Duty (DSD).

The number of homes sold in July jumped to 7,792, after remaining below 6,000 a month for the past year, according to the Land Registry. The increased activity, especially in the primary market which makes up 32% of the total, appears to be driven by an array of discounts and incentives offered by property developers,and by "optimistic homebuyers" seeking out seemingly affordable primary launches. In August 2014 there were 6, 212 transactions, an 82.3% increase from August of 2013, but lower than July’s year-on-year growth of 95.4%.

“Monthly sales volume may be capped at around 7,000 to 8,000 in the third quarter as existing homeowners are reluctant to sell and investors are discouraged by additional taxes,” according to Centaline Property Agency, Hong Kong’s biggest realtor.

Interest rate hikes foreseen

Hong Kong’s currency has been pegged at circa HK$7.8 per U.S. dollar since October 1983, which has the result that Hong Kong’s monetary policy is largely outsourced to the U.S. Federal Reserve. When the Federal Reserve increases interest rates, as is expected around June or July 2015 after the conclusion of its tapering program, Hong Kong´s interest rates will most likely increase as well.

In the meantime, the Hong Kong Monetary Authority (HKMA) best lending rate remains at 5%. It dropped from 5.25% to 5% in December 2008, when the Fed Funds rate declined from 1% to 0.13%, and has been unchanged since then.

Mortgage lending rises

Mortgage loans drawn down during July increased by 4.6% to HK$18.6 billion (US$2.4 billion) compared to a year ago, according to Hong Kong Monetary Authority (HKMA).

Mortgage loans approved in July increased by 78.55% y-o-y to HK$28.3 billion (US$3.65 billion).  Among these, mortgage loans financing primary market transactions increased by a whopping 492.8% y-o-y to HK$6.7 billion (US$ 860 million) and those financing secondary market transactions increased by 49.7% y-o-y to HK$17.8 billion (US$2.3 billion). Mortgage loans for refinancing increased by 32.9% y-o-y to HK$3.8 billion (US$490 million).

The number of mortgage applications in July increased month-on-month by 11.2% to 12,728.
The outstanding value of mortgage loans increased year-on-year by 4.6% to HK$940 billion at end-July. 

The mortgage delinquency ratio slightly increased to 0.03% from 0.02% and the rescheduled loan ratio remained unchanged at nearly 0%.

Low rental yields

Hong Kong’s rental yields are extremely low. For instance, gross rental yields for Property Class A to C (properties with an area of 99.9 sq.m. and below) ranged from 2.7% to 3.1% in July 2014, according to the RVD’s latest figures. Yields for Property Class D and E (areas of 100 sq.m. and above) are around 2.4% and 2.2%, respectively.

The house price index in Hong Kong rose by 241.3% from July 2004 to July 2014, but the rental index rose by just 102.44%.

Smaller-sized residential properties experienced the highest rent rises during the year to July 2014, the rental index of apartments smaller than 40 sq. m. rose by 3.6% and by 1.8% for 40-70 sq. m. apartments. Meanwhile, rents grew by a miniscule 0.7% for 70-100 sq. m. apartments, and declined by 0.6% for 100-160 sq. m. apartments and by 0.7% for apartments larger than 160 sq. m. Overall, rents increased by 1.61% year-on-year in July 2014.

Less than 40 sq. m
40 – 69.9 sq. m
70 – 99.9 sq. m
100 – 159.9 sq. m
Greater than 160 sq. m

Source: Ratings and Valuation Department (RVD)
*Kowloon figures were for September 2013

New supply is up, but not spectacularly

Apart from cooling measures, housing prices may be pushed down by government moves to increase land supply. The government and the MTR Corporation – a government-linked company that is both the city’s subway operator and a major property developer – announced in June the release of five new sites that could provide 2,100 apartments. Almost all land in Hong Kong is owned by the government but leased out for private use.

Construction work started on 8,000 new homes in the first quarter of 2014, the highest level since the office began tracking the market in 2004, according to Hong Kong’s Transport and Housing Bureau (THB).  By the second quarter, construction starts have mellowed down to only 4,300 units – a 34.8% decline from a year ago. Completions, on the other hand, increased 253% to 4,600 units, bringing total completions to 7,500 units for the first half of 2014.

However the totals seem moderate.  In 2013, the total housing stock stood at 1,123,633 units, a 0.51% increase from 2012. According to THB estimates, there will only be around 73,000 units coming on line in the next three to four years.

Hong Kong economy slows down in Q2 2014

The Hong Kong economy registered a mere 1.8% year-on-year growth in real terms in the second quarter of 2014, from 2.6% in the first quarter, according to the Hong Kong Census and Statistics Department (Censtatd). This is the slowest growth since the third quarter of 2012. On a seasonally adjusted quarter-on-quarter comparison, real GDP dipped by 0.1% in the second quarter, after a 0.3% growth in the preceding quarter.

Hong Kong’s small open economy depends largely on variables it cannot control – tourist spending and foreign money inflows. With an average real GDP growth rate of 7.4% from 2004 to 2007, growth slowed to 2.1% in 2008, and then contracted by 2.5% in 2009. The economy bounced back strongly, with real GDP growth rates of 6.8% in 2010, and another 4.9% in 2011, but GDP growth fell sharply to 1.5% in 2012, according to the International Monetary Fund (IMF).

The economy’s surprise contraction was mainly due to a fall-off in tourist spending. Chinese shoppers have cut back on conspicuous shopping following President Xi Jinping´s anti-corruption campaign. External demand makes up about one-third of Hong Kong´s retail sales.

The financial markets have been unaffected. The Hang Seng Index rose 6.8% in July while the H-share index gained 7.7%. The government worries that “hot money” entering Hong Kong to bet on the stock market could easily exit in the wake of a poor economic outlook and the impending U.S. interest rate hike.

Adding to the stresses is political unrest over China’s refusal to grant full democracy to Hong Kong. HSBC has already downgraded Hong Kong’s investment outlook, initially blaming Occupy Central’s planned protests. Moody’s shares the same sentiment, stating that a prolonged period of demonstrations will likely negatively affect economic growth.

Private consumption grew only slightly by 1.2% year-on-year in the second quarter, after two quarters of subdued economic growth. Investment expenditure relapsed to a 5.6% decline.

Yet the labour market has held steady. The seasonally adjusted unemployment rate edged up to 3.2% in the second quarter, from 3.1% in the first quarter. Wages and earnings rose further, while average employment earnings for grassroots workers sustained real improvement.

This article was republished with permission from Global Property Guide.


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