Hong Kong Property: 5 Reasons Why Home Prices Will Drop18 March, 2011, 8:02. Posted by Zarathustra
Tags: Hong Kong, Property, Real Estate
Against the overall bullishness in the property market, I have been slightly cautious since the start of the year. Although I suggested in my own forecast that a 10-15% rise of overall home prices in 2011 is possible under bull case scenario, I have already outlined some of the key risks factors that would trigger a correction, which include an earlier-than-expected interest rates hike from the United States, and more-aggressive-than-expected monetary tightening in China, among with other reasons such as Eurozone debt crisis.
The key to call for the end of bull market in Hong Kong real estate is to identify something that trigger funds outflow. Since I wrote my forecast early this year, new developments around the world and have made Hong Kong property market more risky to me than it was. Follow-up my “Beginning of the End” call, here are some reasons why I turn from slightly cautious to downright bearish:
1. Hong Kong Property Prices Are Really Very Expensive
Whether you agree the methodology or not, there is very little doubt that Hong Kong home prices are among the most expensive on earth. This is the prerequisite to call anything a “bubble”, and the property market in Hong Kong certainly meets this criteria. Even though properties look very affordable, they are so only because of ultra-low interest rate (see Point 5 below).
Of course, being expensive by itself does not mean that prices are going to drop. The key is that fundamentals are not as strong as people think: Hong Kong is no longer a fast-growing economy, and population growth is very slow. Worse still, like many other parts of the world, the population is ageing, and that is going to be negative for real estate market (see Point 3 below).
2. Illusion of Supply Shortage
The most frequently cited reason for high home prices are the supply shortfall, though I have debunked this myth: Hong Kong private residential market has about 210,000 excess flats relative to the true demand, which should well be able to buffer any alleged supply shortfall for 2-3 years. In fact, should the property market correct, the same group of people who are arguing for the shortage of supply (e.g. pundits, politicians, and some analysts) will probably argue that there are too many flats around.
3. Demographic trend is working against the market
Demographics have a weird relationship with asset prices (see here for more depressive note). Real Estate markets all over the world will face demographic headwinds, and there is no different for China and Hong Kong. Similar to China, the ratio of working-age population to total population in Hong Kong peaked in 2010, and population ageing will happen at an even faster rate than China. By 2050, the population aged between 15-59 will account for less than half of total population, down from about 70% in 2010 according to UN Population Division’s forecast.
Property Market Volatility aside, Hong Kong real estate market will face a strong demographic headwind (like China), which means that the long-term trend is more likely to go downward.
4. Economic Uncertainties Increase
Back in those days when the subprime crisis emerged, many people thought it was just a blip. Now, many people think that the Japan’s earthquake is only going to be a blip. Even the significance of Japan in the global economic landscape has diminished over the past 2 decades, Japan is still the third largest economy in the world with all sorts of intricate links within the global economic system. Japan, for instance, is a major trading partner of China and many others, and is a major part of the global supply chain in technological products. Japan is also a large investors in other countries.
There has been reports that Japanese brokerage houses Nomura and Daiwa Capital Markets were among the brokers who sold off most stocks in Hong Kong since the start of this week. While it is unclear whether that was related to Japanese institutional clients selling off stocks in Hong Kong to repatriate funds back to Japan, the country will have a huge need for funds in months or even years ahead, so it should not be surprised that funds are flowing back to Japan (Read also: how Japanese funds flow caused the Asian boom and the subsequent bust in the Asian Financial Crisis in 1997).
Situations in the Middle East and North Africa is also far from clear. The breaking news is that UN Security Council has just approved the use of a no-fly zone in Libya, and military intervention might be on the way. That creates even more uncertainties.
Our neighbour, China, is fighting with inflation and tightening policy. Tightening will inevitably slow down the economy, and that will be negative for Hong Kong real estate.
In the time of crises and uncertainties, money flights to safety (e.g. US Treasury). As Hong Kong property market is extremely sensitive to money flow, the increasingly clouded global economic outlook does not bode well with Hong Kong property market (see the following point).
5. Interest Rates On The Rise
I have written previously that interest rates in Hong Kong do not always move with that of the United States. As long as funds are flowing away from Hong Kong, market interest rates will probably rise even the Federal Reserve was keeping interest rates low. The increasingly clouded economic outlook may trigger some funds flowing away from Hong Kong, which will decrease money supply and put upward pressure on interest rates.
Banks in Hong Kong have raised mortgage interest rates marginally, not because of any interest rates hikes in the United States, but to increase net interest margin. Although not consequential by itself, this gives a signal that interest rates cannot be at record low forever.
Sure, everyone knows that interest rates cannot remain low forever, but understanding this and watching this happening appears to be two different things.
Bubbles are unsustainable, but they often last longer than people believe is possible, and when they end they end very very quickly. Here is a big bubble waiting to burst. But when? Tomorrow, or 6 months later?
Only history can tell, but it might be unwise to go into the market now.