The Role of Economic Changes in Commercial Real Estate Investment in Hong Kong

Hong Kong - economy and property investment

The economic status of Hong Kong has a huge impact in determining the growth and prosperity of real estate market in the country.  A good economic climate encourages the growth of the property market; while on the contrary, a non-supportive economy derails the progress of the property market. Moreover, all sectors of the economy that have a direct effect on the economic status of the country and consequently an impact on the real estate industry. This means that the property market will be potentially affected by any changes in government regulations & political policies, adjustments in financial policies, internal growth and development etc.

The property market of Hong Kong sets a good example that was hugely influenced by the financial crisis that affected Asian countries in 2007 causing a slump in the economy which eventually affected the real estate market for several years before the industry could be sustainable again. When a property market crashes, it leaves investors frustrated and worried hence making them too shy from investing in the property market. This calls for the necessary institutions involved to hastily formulate policies and make decisions that would revive the market and cushion investors from further losses. It should be noted that a crash in the property market can take several years before the market can get back on its feet as can be seen in the crash of the real estate industry of Hong Kong which hit the country in 2007 and took six years before it was finally contained in 2013.

Generally, the economic situation of a country is an important segment that enables the thriving and sustainability of the real estate industry in the country. The economic status may encourage investors to buy property and it is also responsible for de-motivating investors from investing.  The vertical of property investment that is most affected by changes in economic statuses is the Commercial real estate industry.

This is because successful commercial real estate investment is measured by the value of the investment as opposed to the returns on investment. Ideally, the terms of agreements in commercial real estate are significant in determining the value of the investment subject to the health of the economy. This cannot be more emphasized than by the very revelation that the commercial real estate industry is much fragmented and its value chain encompasses a diverse set of entities such as owners, financiers, engineers, contractors, asset managers, property managers, and designers just to mention a few. Essentially throughout the development lifecycle of a commercial property, a number of value chains must be involved and they include; the design phase of the property, operation phase and consequently the disposition phase. During the various phases, the value chain must be engaged with the involvement of either a single or multiple entities. For instance, during the operation phase, the entities involved in the value chains could comprise of property managers, owners, asset managers, tenants etc. Either of these entities is likely to be affected by any changes in the economy thus resulting in an impact in the investment. Additionally, the decisions made by the various entities, either as individual entities or together as a team during a real estate market crash will also impact greatly on the property market.

Therefore the current state of the economy in a given region is a valuable consideration that you need to understand in your real estate investment activities. It is prudent for you to factor in the health status of the economy before you make a real estate decision. There are several aspects of the investment that needs to be analyzed with regards to the economy.

Fluctuations of Interest Rates

Interest rates affect the prevailing value and performance of the property markets. High interest rates tend to weaken the value of property market while simultaneously affecting the performance of commercial real estate investments. Typically, as interest rates rise, it instills fear among investors who then lack the confidence needed in making investments. This, in turn, affects the market.

The reason can be attributed to the fact that rising interest rates usually affect the property capitalization rates as well as property valuations. The property capitalization rate is proportionate to the property's net operating income against the market value of the property. Therefore the cap rates will also rise when the interest rates rise. Since the capitalization rates are the most significant determinant used in the valuation and pricing of commercial real estate investments, an interest high rate depicts a decline in the value of a property and thus instill fear among investors who have to face the possibility of investing in a property whose equity is declining; this impact negatively on performance of the property market.

Financial stability

Financial stability refers to the economic conditions that support a financial system.  Generally, in economics terms, a financial system comprises of markets and market infrastructure as well as the market intermediaries involved in the market transactions. Therefore financial stability involves the resilience of the entities of the financial system to withstand economic shocks and market crashes without any formidable disruption in the effective transfer of savings to build productive effectiveness. It also takes to account the ability of the entities involved to continue with effective financial intermediation irrespective of any economic shocks to the financial system.

Yet, history has taught that interference of financial stability has a direct impact on the entities involved because of the fear of further shock. This is well demonstrated by the reaction of investors in assets markets in case of any changes that they feel may have a direct impact on the financial stability.

In such situations, the financial system fails to smoothly enable entities involved to transfer resources from savings to productive resources because of fear of losses. Moreover ascertaining the amount of risks involved and the ability of accurately value property assets becomes trickier since the financial system is not at a position to comfortably cushion it entities from the risk nor is it capable of absorbing the economic shocks that prevail.

It can be concluded that changes to the financial stability of a country have a devastating impact on the overall participation of real estate investment with a crash of the market discouraging investors from seeking investment opportunities thus leading to a decline of the property market.

Foreign policies on economic development

Different nations adopt various strategies to woo potential foreign investors such as through direct foreign investment policies.   The foreign policies that a country adopts and is inclined towards have a big implication on the real estate industry.  Most nations usually love to adopt sustainable foreign policies that encourage foreign investment which in turn promotes increased demand in the property market by increasing the vibrancy in the industry.  Foreign investments help to promote growth in the process of real estate property. It is worth noting that foreign companies that invest in the real estate industry seek to overcome the stagnation of local market by encouraging foreign investment in other industries thus boosting the growth and development of the real estate market.

An interesting fact to note is that foreign investment in the real estate market also helps to enforce the supply restrictions of real estate property due to the regulations that govern lands used or due to the scarcity of land. Supply restrictions have a major impact on regulating the supply in the property market which in turn keeps the supply on the check while enabling the market players to enjoy a growing demand which consequently results to the rise houses in the property market.

Therefore the policies that government adopts on foreign investment have a significant impact on the real estate industry and may either promote vibrancy in the market or they may influence the shrinking of the market. It is important for countries to adopt policies that promote a vibrant property market.

Global economic and political uncertainty

In the recent years, there has been a heavy uncertainty of the global property market which impacts most foreign investors. Some countries across the globe have recorded slow growth on its property market. This uncertainty has a direct effect on the economic statuses of the property markets in most countries where foreign investors have an influence in the markets. Investors are likely to shy away from investing because of market uncertainties. Moreover, most foreign investors are more likely to liquate their investment markets if they strongly feel that there are several potential risks of losses that may occur due to the economic situation of the control.

Changes in the political arena also have an effect on the vibrancy of the real estate industry. The recent Brexit incidence by the UK is an example of how political alterations can affect the market. There is the need for investors to hold onto their properties in the event that changes in the political regime affect the market. This is because the effects of the changes may be short-term and thus later the property market may resume back to normal.

Government policies

Enactment of government policies is likewise another element that can significantly affect property market. The taxes levied, and subsidies are examples of the ways the legislature can incidentally support interest for real estate investment for whatever length of time that they are set up. Monitoring current government motivating forces can enable you to decide changes in free market activity and distinguish conceivably false patterns. For instance, in 2009, the U.S. government presented a first-time homebuyer's duty credit to mortgage holders trying to kick off home deals in a languid economy (just the individuals who acquired homes between 2008-2010 are qualified). This duty motivation alone prompted 900,000 homebuyers to purchase homes. This was a significant sizable increment, albeit transitory, and without knowing the expansion was a consequence of the expense motivating force that led to the US property market bubble of 2008.

Ability of the Investment to Service Debts

Real estate investment usually requires huge funds. Therefore, most investors usually rely on financial lenders for credit to purchase a property or finance its renovations. The Servicing a credit when the economy is healthy can be easier. However, you need to forecast the state of the economy during the period that you will be servicing the credit. For instance, if the economy stagnates as it did back in 1997, there is a likelihood of an investment crunch as the property might be unable to services debts leading to huge losses.

It's imperative to take note of that as financing costs rise, the cost to get a home loan expands, along these lines bringing down request and costs of land. Notwithstanding, when we carefully examine at the effect of loan fees on a value speculation for example, a real estate investment trust (REIT), as opposed to on private land, the relationship can be thought of as like a security's association with financing costs. At the point when you complete paying the loan, the estimation of a security goes up in light of the fact that its coupon rate turns out to be more attractive, and when financing costs increment, the estimation of securities diminish. Additionally, when the loan cost diminishes in the market, REITs' exceptional returns turn out to be more appealing and their esteem goes up. At the point when loan fees increment, the yield on a REIT turns out to be less appealing and it drives their incentive down.

Capacity to Access Affordable Credit

Property investment can be tricky and costly if the credit that you access attracts high-interest rates. High interest rates are traits that are common in an ailing economy. It is essential to seek for a credit when the economy is healthy so that you can benefit by getting affordable credit at low interest rates.

Moreover, during an economic contraction, the prices of property might be cheaper and hence, if you have money for investment, then it is the right time to do so. On the contrary, avoid purchasing property when prices are high as you may buy an over-priced property with little return on investment.

Credit constraints on banks and existing over allocations to land creates worries about the size of return of the investment. Processing loan requests by different divisions of the economy cause instability over access to capital. Thus small investments in property, properties in auxiliary or tertiary markets, and properties with feeble borrowers, generous opportunity, high rollover of occupants in early years, or other hazard variables are as of now encountering a serious capital lack.

Cost Structure

Commercial real estate in Hong Kong usually attracts many expenses. Expenses cut into the profits hence reducing the return on investment. During contraction of an economy, expenses usually go up and can greatly reduce the returns of the investment. It is important to invest in a property that has little expenses over the costs. This saves you the worry of increased expenses in case of an economic crunch.

Public-private partnerships as well as associations with neighboring governments are being seen as potential supplements or trades for elected subsidizing of the up and coming era of required foundation upgrades and could cover a huge amount of money. Of conceded support of existing resources.

Conclusion

It is important for governments to promote a healthy economic status that helps the real estate market to thrive. The government has a duty of supporting the market through appropriate regulations that control the market and safeguard it from external interferences that could spell doom for the real estate market. The government has also got to promote better economic status through various government policies and legislations.

Engel & Völkers

Hong Kong, Real Estate Agency
Shop A, Ground Floor, 95 Caine Road, Mid Levels
- Hong Kong
Company License: C-035745
Phone
+852 2561 3616

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