Leasing Momentum and Investment Softens Due to Strong Economic Headwinds and High Interest Rates

Global economic growth outlook is confronting strong headwinds, from aftershocks of the global banking turbulence, clouds of slowdown hovering across developed and developing economies, to continuous interest rate hikes. Against this global backdrop, the leasing momentum and investment activities have softened in the first half of 2023, according to CBRE Hong Kong’s 2023 H1 Market Review.

“Hong Kong’s commercial real estate market in general is experiencing a mix of performance trends. Office leasing momentum is slightly slower than the pace one year ago; retail market is on a healthy and gradual recovery; industrial leasing sentiment turns sour owing to sluggish external demand. The investment market is tanked primarily due to negative returns caused by high interest rates," said Marcos Chan, Executive Director, Head of Research, CBRE Hong Kong.


Review and Commentaries 

Grade A Office 

• Leasing volume for H1 2023 was about half of the full-year total in 2022, however, Q2 2023 gross leasing volume dropped 26% q-o-q from Q1 2023 to 786,000 sq. ft. with most deals registered during the quarter generally small in size despite an increase in the number of transactions.
• After being positive for three consecutive quarters due to several major relocations, net absorption fell back into negative territory quartering Q2 2023, bringing the half-yearly net absorption to -276,700 sq ft. 
• Negative net absorption pushed up total vacant space to another new record high of 13.5 million sq. ft. Overall vacancy rose by 0.4-ppt during H1 2023 to an all-time high of 15.7%.
• Weaker demand ensured overall rents fell 0.5% q-o-q in Q2 2023, bringing the half-yearly drop to -2.2%. Rents in the core of Central, however, stabilized for the first time since Q2 2022, up 0.1% q-o-q. Hong Kong East holds hard knock amongst other sub-markets in five of the past six quarters, saw further rents fall of 0.4% q-o-q, after registering a 3.8% q-o-q drop in Q1 2023.
  

Ada Fung, Executive Director, Head of Advisory & Transaction Services – Office Services, CBRE Hong Kong: “Global economic uncertainties and higher financing costs ensured office leasing momentum slowed marginally compared with the first half of 2022. Some office occupiers are assessing long-term leasing strategies and are looking for ‘flight-to-quality’ moves. Leasing volume is likely to climb up in the remainder of the year. As the office supply in the pipeline enters the market, the office market is under pressure on multiple fronts with vacancy expected to hike further and rents to edge down in the remainder of the year.”

Grade A Office	H1 2023	Q1 2023	Q2 2023	H1 2023	Q1 2023*	Q2 2023	2023F
	Net Absorption (Sq. ft.)			Rental Change (%)
Overall	-276,700	102,200	-378,900	-2.2%	-1.7%	-0.5%	-0-5%
Greater Central	-273,000	-112,000	-161,000	-1.9%	-1.5%	-0.4%	-0-5%
Wanchai, Causeway Bay	9,100	-6,600	15,700	-2.1%	-1.9%	-0.2%	-0-5%
Hong Kong East	-167,000	-55,900	-111,100	-4.2%	-3.8%	-0.4%	-0-5%
Tsim Sha Tsui	-26,200	48,600	-74,900	0.0%	0.3%	-0.3%	Flat
Kowloon East	92,200	152,400	-60,200	-3.%	-1.6%	-2.0%	-0-5%

(*) q-o-q

Grade A Office	End-Dec 2022	End-Mar 2023	End-Jun 2023	2022	2023F
	Vacancy (%)			New Supply (sq. ft.)
Overall	15.3%	15.3%	15.7%	4.2 mil.	2.6 mil.
Greater Central	8.8%	9.3%	10.1%	N.A.	N.A.
Wanchai, Causeway Bay	12.4%	12.4%	12.3%	N.A.	N.A.
Hong Kong East	13.0%	13.6%	14.7%	N.A.	N.A.
Tsim Sha Tsui	13.4%	12.9%	13.6%	N.A.	N.A.
Kowloon East	22.4%	21.6%	21.9%	N.A.	N.A.

Retail 

• Leasing momentum remained strong in Q2 2023 thanks to the issuance of the first round of new consumption vouchers in April and the Golden Week in May. Total retail sales in May provisionally estimated at HK$34.5 billion, rose 18.4% y-o-y, following the growth of 4.9% in April and 24.1% y-o-y in Q1 2023. 
• H1 2023 registered 870,000 sq. ft. of retail leasing volume, the highest for a half-yearly period on record.
• F&B contributed 32% of new leasing activity in H1 2023, the most across all major retail trades. Several mainland F&B chains entered the market during the period. High-end retailers such as luxury cosmetics and jewelers began to add to their presence on high streets but remained overall slow in terms of leasing momentum. Pharmacies were relatively active in expansion despite opting for smaller shops. Fashion brands and sportswear also displayed some interests in H1 2023. 
• Increased leasing demand ensured vacancy fell by 1.8-ppt in H1 2023 to 11.6%, the lowest rate since Q1 2020. Causeway Bay saw the strongest release of vacancy pressure, bringing the district’s vacancy down to 7.9%, narrowing the gap with Central’s 6.6%.
• High-street rents rose a further 1.9% q-o-q in Q2 2023, bringing the half-yearly growth to 3.1%.

Lawrence Wan, Senior Director, Head of Advisory & Transaction Services – Retail, CBRE Hong Kong: “The gradual recovery for the retail market is tracking prosperously with local consumption already returned to the level in 2019. Inbound tourism is achieving half the levels before the 2019 downturn, ensuring slower recovery of tourist consumption. Overall, retailer strengthened noticeably in H1 2023. While pharmacies, galleries, and some F&B chain groups are now looking to expand quickly, luxury brands remained largely cautious and will take some time for them to further observe the latest spending pattern of Mainland Chinese tourists before they will be more engaged in leasing. We foresee that high street shop rents will edge up a further 3%-5% in H2 2023.”

High Street Shops in Core Districts	End-Dec 2022	End-Mar 2023	End-Jun 2023
	Vacancy (%)
Overall	14.9%	13.4%	11.6%
Central	8.0%	6.6%	6.6%
Causeway Bay	13.2%	11.8%	7.9%
Tsim Sha Tsui	20.3%	17.4%	15.9%
Mong Kok	16.6%	15.4%	13.7%

Retail	H1 2023	Q1 2023*	Q2 2023*	2023F	2022	2023F
	Rental change (%)				New Supply (sq. ft.)
High Street Shops	+3.1%	+1.2%	+1.9%	5-10%	N.A.	N.A.
Prime Shopping Malls	Flat	Flat	Flat	0-5%	1.5 mil.	3.2 mil.

Industrial  

• Due to sluggish external demand, aggregate trade in April and May combined fell by 14.3% y-o-y, marking a 13th consecutive month of decline. Container throughput and airfreight dropped by 20.3% y-o-y and 6.0% y-o-y, respectively, over the same period.
• Leasing momentum contracted further in Q2 2023 amid weak global trade demand and limited availability of space. Individual sectors led the leasing market with highlights including GDS leasing 294,000 sq. ft. for expansion.
• Overall industrial leasing volume registered 1.3 million sq. ft. in H1 2023, just 27% of the 4.6 million sq. ft. captured one year ago in H1 2022.
• Warehouse vacancy fell 0.2 ppts q-o-q to 2.5%, a level on par with that six months ago in December 2022.
• Prolonged low vacancy ensured rents stayed flat this quarter, closing the first half of 2023 with a 0.4% growth. 

Samuel Lai, Executive Director, Head of Advisory & Transaction Services – Industrial & Logistics, CBRE Hong Kong: “The industrial leasing market was quiet due to both weakened demand and tight space availability in Hong Kong. Specific sectors such as data centres have supported leasing activities. Despite a low vacancy rate which would normally lead to higher rents, sluggish demand has cause landlords to become more flexible, resulting in stable rent. Looking ahead, the completion of the new premium warehouse set in the Hong Kong Airport is expected to boost the supply of premium warehouse space.”

Industrial & Logistics	H1 2023	Q1 2023*	Q2 2023*	2023F
	Rental Change (%)
Warehouse	+0.4%	+0.4%	Flat	Flat
Flatted Factories	+0.2%	+0.1%	+0.1%	N.A.
Industrial/Office	-0.7%	Flat	-0.7%	N.A.

(*) q-o-q

Industrial & Logistics	End-Dec 2022	End-Mar 2023	End-Jun 2023	2022	2023F
	Vacancy			New Supply (sq. ft.)
Warehouse	2.5%	2.7%	2.5%	1.6 mil.	4.3 mil.

Capital Markets

• Following another 25-bps interest rate hike in the U.S. in April, Hong Kong’s major banks raised their Best Lending Rate by 12.5-bps. The 1M-HIBOR rose to 5.1% in June from 3.1% in March 2023, the highest since September 2007.
• Total commercial real estate investment volume (deals worth over HK$77 million) fell 65% q-o-q to HK$4.7 billion in Q2 2023, marking the lowest quarterly total registered since Q2 2009. This brought the half-yearly total for H1 2023 to HK$18.1 billion, the lowest for a six-month period since 1H09.
• Purchasing was mostly led by individual buyers, with property funds remaining quiet for a second consecutive quarter. The most notable transactions involved the sale of 50-52 Sassoon Road for HK$550 million and retail portion, THE HENLEY for HK$528 million.
• Chinese investors showed some interests quartering Q2 2023, spending HK$1.9 billion or 42% of total investment, but activity was confined to private individual buyers.

Reeves Yan, Executive Director, Head of Capital Markets, CBRE Hong Kong: “Institutional investors hold a cautious approach with uncertainties over high interest rates, tighter credit conditions and elevated refinancing needs. The investment volume has plummeted in the first half of the year. The average deal size was limited to just HK$500 million and this reflected risk-averse attitude among investors. Yet, given the strategic, unique positioning in Asia and more reasonable asset values, Hong Kong’s commercial real estate market will rebound once interest rate falls back.” 

Investment	H1 2023	Q1 2023	Q2 2023
	Total Investment Volume (HK$ mil.)#
Overall#	18,086	13,432	4,654
Office	3,435	2,333	1,102
Retail	5,611	4,379	1,233
Industrial & related	1,169	948	221
Hotel & related	558	88	470
Miscellaneous	7,312	5,684	1,628

(#) property transactions >USD 10 mil, excl. govt and private land transactions.

Investment	H1 2023	Q1 2023*	Q2 2023*	2023F
	Capital Value Change (%)
Grade A Office (Stratified buildings only)	-2.0%	-0.1%	-1.9%	-5-10%
High Street Shops in Core Locations	+2.9%	+1.0%	+1.9%	0-5%
Warehouse	-2.5%	+0.4%	-3.0%	-5-10%

(*) q-o-q