Triggers that could end Hong Kong's property boom

[HONG KONG] Hong Kong property companies such as Sun Hung Kai Properties Ltd and CK Asset Holdings Ltd are bracing for the first increase in the city's prime rate in more than a decade. A higher prime rate, which sets the upper limits on mortgages, could damp surging housing prices in the world's least-affordable real estate market.

"Whenever a prime rate hike happens, it will cause the property market to rethink the sanity of paying HK$10 million (S$1.7 million) for 200 square-foot apartments," said CLSA Ltd analyst Nicole Wong.

Rising US rates are putting pressure on banks to raise, as they also face a domestic squeeze from the monetary authority draining liquidity to defend the Hong Kong dollar. Here are some possible trigger points to gauge the timing of a possible increase in the prime rate, which the city's major banks have held at 5 per cent since November 2008.

In the last cycle of higher rates in 2005, the main banks raised their prime rate days before a widely expected Fed increase that took tightening to 175 basis points. The Fed has already boosted its benchmark rate by 150 basis points since it started raising in December 2015. That means the next Fed increase could be enough to get Hong Kong banks moving.

Ronald Man, a strategist at Bank of America Merrill Lynch in Hong Kong, says higher prime rates could end the bull run on house prices. "Our house view is Hong Kong home prices will grow 5 per cent this year, followed by a 15 per cent correction in 2019-2020," he said.

The Hong Kong Monetary Authority last month was forced to intervene after the currency breached HK$7.85, the lower end of its trading band, for the first time since 2005. The wave of buying has mopped up some of the abundant liquidity that has fuelled the housing boom. It also put pressure on borrowing costs with the three-month interbank rate known as Hibor gaining for 13 days through May 2 to the highest since 2008. For now liquidity remains robust with the aggregate balance of the city's banking system at almost HK$130 billion. Pressure remains on the territory's currency and any further intervention could send liquidity much lower and prompt banks to act on prime.

"The threshold is HK$100 billion to trigger banks to raise prime," said Raymond Cheng, a property analyst at CGS-CIMB Securities.

Tighter liquidity will provide "a more conducive environment for Hong Kong interest rate normalisation," said HKMA chief executive Norman Chan after the Federal Reserve kept rates on hold yesterday. "The HKMA reminds the public to manage risks prudently to prepare for possible volatility in local interest rates and asset markets."

The difference between the prime rates and the one-month Hibor rate is another signal that pressure for a prime rate increase may boil over. In the previous two cycles, HSBC Holding plc's prime rate began to rise after the spread between the two narrowed to less than three percentage points. "If history is any guide, we need to see 1-month Hibor breaking above 2 per cent before banks tinker with prime rates," Ryan Lam, head of research at Shanghai Commercial Bank wrote in a note to investors on April 24.

"Interest rates in Hong Kong are all set to spike in the months ahead," DBS Bank Ltd economist Samuel Tse wrote in a note to investors on April 26. "The prime lending rate will likely reach 5.75 percent by end-2018 in anticipation of more rate hikes in the U.S. this year."

To be sure, Hong Kong's property companies are probably better positioned than in the past to weather a prime increase, even if it does cool housing prices, which have already gained about 9 per cent this year. Hong Kong's biggest developers enjoy low debt levels and have so much liquidity that they are "capable of financing buyers themselves", if banks pull back, said Bloomberg Intelligence analyst Patrick Wong.

BLOOMBERG