Hong Kong’s office slump squeezes real estate funds

    The Star   Friday, 26 Jan 2024

Shrinking market: Tourists walk in front of the central financial district in Hong Kong. Rents have been falling and space emptying in the city after the pandemic. — Reuters

Hong Kong: Real estate funds are getting caught in Hong Kong’s worst commercial property slump after making ill-timed investments when the market peaked just a few years ago.

Funds are increasingly trying to sell once-prized office towers at significant discounts as they rush to exit to avoid mounting interest payments on loans.

Those holding onto assets are having to endure record-high vacancies along with rising borrowing costs.

Selling an office property in Hong Kong now is no easy feat, with rents falling and space emptying after the financial hub lost its lustre during the pandemic.

Buyers are hard to come by even after office prices tumbled 35% from their peak in 2018.

“There are few investors looking to buy offices because the yield is low while rents may drop further,” said Oscar Chan, head of Hong Kong capital markets at Jones Lang LaSalle (JLL). “Owners have to cut their prices.”

Some office owners including Chinese companies and funds have stopped repaying their mortgages or are considering doing so because rents no longer cover costs, said Chan.

The trend is more common in Kowloon where vacancies are higher, he added.

Even though recent disposals were able to break even or achieve a profit, it’s only a matter of time before funds have to realise the earlier investments they made, according to Benjamin Chow, head of Asia real assets research at MSCI Inc.

Domestic and overseas funds bought a combined US$16.1bil worth of commercial real estate in Hong Kong from 2016 to 2019, but only sold US$1.2bil between 2020 and 2023, data from MSCI show.

“With the deteriorating macroeconomic outlook and the prospect of a ‘higher-for-longer’ interest-rate environment, fund managers will have to choose between selling at a hefty discount today, versus lengthening the investment horizon with more expensive financing and at the cost of diluting their internal rate of return,” Chow said.

KaiLong Group, a Chinese fund manager, has been trying to sell an office building in the Sheung Wan area that’s also held by Goldman Sachs Group Inc.

The Shanghai-based firm was still struggling to find a buyer after cutting its asking price by at least one-third, Bloomberg News reported in November.

The downturn is hurting larger players as well. In 2019 and 2020, Gaw Capital purchased three towers from Swire Properties Ltd for a combined HK$25bil – landmark deals at the time.

The buildings have vacancy rates of 14%, 19% and 28%, according to the firm. That compares with a 13.5% vacancy rate in the district, JLL data show.

Gaw Capital declined to comment further. KaiLong Group didn’t respond to a request for comment.

Hong Kong’s vacancy rate citywide rose to an unprecedented 16.4% by the end of 2023, according to CBRE Group Inc. That’s put pressure on Grade A office rents, which slipped 6% last year.

CBRE expects rental costs to drop as much as 10% in 2024.

The market was booming until a few years ago. Office values started to surge in 2016, rising 50% over the next two years to reach an all-time high in 2018, Colliers International Group Inc figures show.

That was before global financial firms cut space as business prospects dwindled and workers left the city amid tightening restrictions from Beijing. — Bloomberg