Hong Kong Property:Why are HK property developers outperforming

Selective but not defensive. We believe it is premature to change our cautiousview on the property market yet as the positive trend in the China economy isyet to be confirmed and sell through rates are still quite diverse. We believeCKP, which has a minimum exposure to Hong Kong and potential for capitalmanagement is a better alternative to SHKP and Henderson Land. The expectedmoderation of the Hong Kong retail sales decline, potential restructuring of itsCME division and possible stake increase by Wheelock should turn Wharf intoan outperformer. We also like NWD due to its distressed valuation and positivecatalyst from the pre-leasing of the New World Centre in 2H16.

    HK developers outperformed the broader market. Against a backdrop offalling property prices, HK developers’ shares outperformed the HSI andHSCEI by 8% and 10% YTD respectively. We believe the strongperformance of the share prices reflected the market general expectation thatresidential prices are unlikely to see significant correction as expectation of USinterest rate hike moderates and China economy stabilizing. We believeinvestors also find the relatively high earnings visibility of the HK propertystocks (56% of earnings from recurrent) as one of the key attractions.

    Improving China economy stabilizes buyers’ confidence. Apart from thestabilization of the US interest rate hike expectation, we believe improvingsentiment towards the China economy is one of the main drivers for a potentialbetter property outlook in Hong Kong. China consumption and industrialactivity were stronger than forecast in March. NBS PMI rose above 50, the firsttime since last July. The Caixin services PMI rose to 52.2, up from 51.2inFebruary. Nominal GDP improved to 7.2%oya in 1Q16from 6%oya in 4Q15.Various sub segments in the economy has also been moving from contraction toexpansion. A better China economy does not drive Chinese demand for HongKong properties but it stabilizes confidence in the Hong Kong residentialmarket to unleash end user demand.

    Negative Hong Kong econ numbers are lagging indicators. Hong Kongunemployment rate for the 3months ended Mar-16has increased by 0.1pp to3.4% which is the highest level since May-13. Except for finance and IT, allother sectors reported an increase in unemployment rates compared to the 3-mthperiod ended Feb 2016. In particular, the unemployment in the retail industryhas jumped by 0.7pp to 5.5%, the highest across all sectors. This is not apositive set of economic data but it’s not something that the market has notbeen aware of as well. If the China economy starts to improve, this should makethis historical data increasingly irrelevant.

    Residential price adjustment going to be slow. Due to the relatively hightransaction cost in the secondary market, we believe the price adjustmentprocess is likely to be very slow. This also means the government is unlikely torelax any property measures in the near term. More importantly, we believe themarket will see it positively if developers can sell >1,700units per month onaverage so that the total units sold in 2016will be the same as last year.