_Leasing momentum remained soft but saw new demand from Mainland companies

June 28, 2024

Knight Frank's latest Hong Kong Monthly Report highlights the property market's performance across different property sectors. The office sector on Hong Kong Island continued to face challenges, grappling with declining rents and increasing vacancies. The Kowloon market saw a slight increase in leasing volume, but the transaction amount remained soft. In the residential market, the overall transaction volume cooled in May, while primary sales dropped significantly by 46.8% MoM. This latest decline in retail sales indicates that Hong Kong is grappling with persistent challenges, including low consumer confidence, waning competitiveness, and changing tourism spending patterns.

Grade-A Office

Hong Kong Island

The office sector on Hong Kong Island continued to face challenges and grapple with dropping rents and increasing vacancies. Among all the submarkets, Central saw the biggest drop in rent, falling by 3.4% so far this year.

On a positive note, there was a resurgence in new office demand from some Chinese mainland businesses, inquiring about high-quality, small and medium-sized office space under 5,000 sq ft.

Given the current state of the macroeconomy, we expect office-leasing demand to remain moderate in the second half of 2024 in the absence of any supportive measures from the government. As rents continue to fall in prime districts, we expect the average Grade-A office rent on Hong Kong Island to fall by 3% to 5% for the whole year.

Against the backdrop of the weak office-leasing market, we also expect the office sales market to be dominated by end-users and private investors. We expect most private equity real estate funds and insurance capital to continue to adopt a wait-and-see approach in the short term.

Kowloon

The Kowloon market saw an increase in leasing volume. In May, new letting transactions volume increased about 23% MoM, as some companies resumed business activity after the Easter holiday in April.

However, the transaction amount continued to be soft. In May, the average monthly rent dropped slightly to HK$22.6 per sq ft, marking the fourth consecutive month of declines. An increase in transaction volume combined with a decrease in transaction amount implies that the average size of deals was diminishing, hence indicating a further bottoming of the market.

Once the market sees more sizeable transactions with increased volume, rents and the total transaction amount are expected to rebound.

Looking ahead, whether the Kowloon office leasing market will bottom out and rebound soon still depends on how fast the supply surplus is absorbed. Stable rental growth of 0% to 2% is expected in the Kowloon market in 2024.

Residential

In the past three months, more than 7,000 new homes were sold, but the initial enthusiasm once the property-cooling regulations were lifted has started to wane. Overall transaction volume cooled down in May. Primary sales dropped significantly by 46.8% MoM to 1,934 in May but were still up by 38.5% YoY. First-hand sales were supported mainly by developers’ discounted inventory and new launches near MTR stations.

There continued to be cases of massive repricing in the market. A 737 sq ft flat in a blue-chip estate in Eastern District was sold at a 26% discount from its asking price HK$11.8 million, about 7% below its purchase price a decade ago.

The influx of new talent has provided support for the leasing market, driving the rental index to increase for two consecutive months by 0.9% MoM and 4.5% YoY in May.

Looking ahead, the unfavourable economic climate and high interest-rate environment will continue to put pressure on home prices. We expect home prices to continue to move downwards in the second half of the year. Owing to the abundance of unsold inventory and the absence of other positive factors, a rebound in prices is expected to take much longer. We maintain our forecast for home prices to fall by 5% in 2024.

Retail

The retail sector in Hong Kong has seen a sharp decline in sales performance. In April 2024, the total retail sales value was HK$29.6 billion, down 14.7% YoY. This latest shortfall in retail sales indicates that Hong Kong is grappling with persistent challenges in low consumer confidence, waning competitiveness and changing tourism spending patterns.

The value of total retail sales for the first four months of 2024 dropped by 4.7% from the same period in 2023, including a 7.8% YoY decline in sales of luxury goods to HK$18.2 billion. One of the primary reasons for this decline is the shifting spending habits and travel behaviour of mainland visitors, who comprise a significant portion of the city's tourist base. These visitors are now more inclined to seek “cultural tourism” than traditional shopping activities.

The luxury retail sector, which used to pay the highest rents, is now facing the brunt of this downturn. Owing to the poor performance of luxury sales, luxury retailers have adjusted their presence and are not expected to expand further, so retail rents are expected to remain at a low level.

Some Mainland F&B operators who were seeking opportunities to introduce their brands and test the market’s appetite have started to feel the pain. There were some cases of store closures and early surrenders for some Mainland F&B operators recently.

Retail investment opportunities still depend on owners reducing prices to provide a satisfactory rental return for investors. Given the prevailing trend and the lack of retail momentum, we have a conservative outlook for retail sales performance in 2024, with a possible lower level than that in 2023. As the poor retail performance has cast a shadow on retail rental growth in the city, we expect overall retail rents to remain flat across the board for the remainder of 2024.

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