With No Mainland Chinese Buyers, Hong Kong’s Commercial Real Estate Dives

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The most important source of inbound investment — mainland China — has vanished, with huge ramifications for CRE.

By Nick Corbishley, for WOLF STREET:

The Hong Kong government’s Land Office did something rather unusual. On May 13, it withdrew a major commercial plot it had put up for sale at the site of the city’s former airport at Kai Tak. The Land Office had received four bids for the plot, including from Sun Hung Kai Properties, Hong Kong’s biggest developer by value, but none of them came close to the government’s undisclosed reserve price, prompting the Land Office to pull the offer.

The withdrawal of the lot, only the fourth since January 2018, came after appraisers had lowered estimates of the land parcel’s value by 20% to a range between HK$6.38 billion ($820 million) and HK$10.44 billion ($1.35 billion). But some market insiders say the government had failed to take this sufficiently into account.

“The government overestimated the [parcel’s worth],” said Charles Chan, managing director of valuation and professional services at Savills. The market has corrected, but the [reserve] price was not in line with the market”.

In another part of Kai Tak, another land deal told a similar story. Goldin Financial Holdings Ltd., a Hong Kong-based investment holding company whose shares have fallen nearly 50% in the past six months, had to accept a loss of 21% or $335 million in its sale of an undeveloped residential land parcel it had bought in 2018. It was a desperate effort to raise cash.

“Considering the preliminary stage of development of the property and the significant capital required for the project, the directors adopted a prudent approach to retain more cash for the group’s existing business, against the uncertain outlook in the property market and the overall economic downturn in Hong Kong,” Goldin said in a bourse filing.

Hong Kong’s commercial property sector has been hit by a quadruple whammy over the last couple of years. First, Beijing imposed capital controls on money flowing out of China, much of which had been pouring into Hong Kong real estate. Shortly after that, trade tensions between the U.S and China began escalating, leaving Hong Kong stuck in the middle. Then the city was rocked by non-stop student protests. And now, to cap it all off, there’s the virus crisis.

Hong Kong’s health authorities have managed the threat posed by Covid-19 far better than many other global cities, largely due to the lessons gleaned from previous outbreaks, including the 2003 SARS episode. The city has so far only registered four deaths from Covid-19. But the economic impact of the partial lockdown and the closure of most of its land borders with China has nonetheless been brutal.

The city is already in the throes of its deepest recorded recession, after notching up three consecutive quarters of falling GDP. The 8.9% contraction suffered in the first quarter of 2020 was the biggest since records began.

And the most important source of inbound investment as well as demand for the city’s luxury retail sector — mainland China — has effectively vanished, with huge ramifications for the city’s commercial real estate (CRE).

In the first three months of 2020, there were no recorded deals at all by cross-border investors, according to CBRE Group Inc., which tracks deals over HK$77 million ($10 million). Mainland Chinese buyers, who largely drove the multi-decade luxury real estate boom in Hong Kong, have not only stopped buying luxury homes altogether, but they’ve also stopped buying commercial real estate, for the first time since 2009.

CRE investment has fallen across many of the world’s regions so far this year, but few areas have been hit as hard as Asia Pacific. Investment in the region in the first quarter tumbled 50% year-over-year, to US$21.3 billion, the lowest level since the Global Financial Crisis, as investors try to conserve cash, according to Real Capital Analytics. The volume of land deals also slumped by 37%.

Within the Asia Pacific region, Hong Kong has been hit the hardest. Of six mature property markets, Hong Kong fared the worst, with transaction volumes collapsing by 74% in the first quarter, according to JLL. That compares with falls of 68% in Singapore, 61% in mainland China and 28% in Australia. In contrast, transaction volumes in Japan remained more or less flat while in South Korea they actually rose by 32%.

In Hong Kong office vacancy rates for class A properties have already reached 7.3%, just one percentage point off the 8.2% peak registered in June 2009. Office prices are also feeling the strain, slumping to HK$23,385 per square foot in the first quarter, down 9.3% from a peak in September 2018, according to Colliers.

Harsher reverberations are being felt across the retail property sector. On some prime shopping streets, rents have crashed to their lowest levels in 12 years. On Russell Street, once one of the most expensive retail stretches in the world, average rents plunged 27% year-over-year in the first quarter, according to the Wall Street Journal.

This is largely due to the fact that Chinese tourists, long the mainstay of Hong Kong’s all-important luxury goods sector, have gone AWOL. Even before Covid arrived, the pro-democracy movement had scared many of them away. Covid did the rest. In April, with social distancing rules tightened and border controls with mainland China still in place, total visitor arrivals slumped “almost 100%” to 4,125. In the same month of 2019, there were 5.57 million arrivals.

In the almost total absence of foreign visitors, Hong Kong’s retail and hospitality sectors have imploded. In March, retail sales plunged by 42% year-over-year, according to Hong Kong’s Census and Statistics Department. That came on the heels of a 44% fall in February. For the first quarter of 2020, the value of total retail sales fell by 35% compared with the same period in 2019. Sales of luxury goods — a huge part of Hong Kong’s retail industry — in March slumped by 73%.

For the owners of retail properties and hotels, the pain is steadily growing. In the last two months, many retailers have gone under or closed stores, resulting in a vacancy rate in core shopping areas of 9%, the highest in five years. Many owners have had to offer their tenants sharp reductions in rent. Capital values for retail have also slumped 14% since the end of last year, to HK$33,964 per square foot. That’s 27% down from the peak of HK$46,344 per square foot reached in March 2014. But in those days the city’s tourism industry was booming. Today, it doesn’t even exist. By Nick Corbishley, for WOLF STREET.


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