With so much uncertainty surrounding the future economic impact of Covid-19, investors have so far tended to latch on to two standout themes. One is the fast accelerating growth of e-commerce and companies closely linked to that. The other is the switch to remote working, with the alteration to daily routines and lifestyles that inevitably brings.
At one remove, these developments are both seen to have significant implications for the commercial real estate sector. Indeed, some commentators are suggesting that, once the pandemic recedes, any rebound in demand for retail and office space may be a long time coming.
Their argument is straightforward: shoppers now prefer the convenience of buying online and having items delivered, while office workers enjoy the flexibility of being task-oriented at home rather than tied to a nine-to-five schedule with a daily commute.
Particularly in Hong Kong, though, there is more to it that. The need for structural change in the property sector is beyond doubt, but it is more likely to be driven by large-scale policies, such as the Greater Bay Area (GBA) initiative, and other economic forces already in play well before the coronavirus struck.
“In terms of commercial property, tenants’ rental income was adversely affected by Covid-19,” says Jianping Chen, property analystat Credit Suisse. “The turnover rents have gone, with Hong Kong retail sales down 32 per cent year-on-year over the first seven months, and the rental concessions offered to tenants have also affected landlords’ cash rental income. With the retail spot rent at 24 per cent below the average of 2017 and 2018 levels, the negative rental reversion will affect landlords’ income for the next one to two years. But most of these negative factors are already priced in, so we should see signs of stabilisation as the Covid-19 situation improves and offers some relief to the retail market.”
Beyond that, though, the sector’s other headache remains: declining numbers of big-spending visitors from the mainland who have propped up sales of luxury items and standard household goods over recent years. The latest figures confirm not just a dramatic fall in arrivals, but also a drop in the value of spending per capita. And the chances of reversing either trend are speculative at best, as the mainland government looks to stimulate domestic consumption and launch initiatives like the new Hainan duty-free zone, providing alternative destinations for getaway shoppers.
“So, retail landlords in Hong Kong need to prepare for a change in customers and spending patterns,” Chen says. “The proportion of luxury sales will decline, so they need to reposition in terms of tenant mix and prepare for local demand.”
For malls, that essentially means introducing more “experience-related” tenants - food outlets and restaurants, education centres, and indoor playgrounds for kids – catering to leisure activities as much as shopping needs.
Overall, Chen believes, the potential competition from e-commerce will be moderate for Hong Kong when compared with mainland cities. For one thing, delivery capacity can be a problem and, from a vendor perspective, it’s not that enticing. For another, the sheer density of malls, supermarkets, convenience stores and other outlets makes it quick and easy to just nip out and stock up.
“If living space is crowded, people want to go out,” Chen says. “So long-term wise, if the economy remains strong, I’m not worried about the prospects for retail property.”
Similar reasoning leads her to conclude the work-from-home movement may have only limited impact on future demand for office space. In practice, only the lucky few have a separate room in their apartment where they can plan a budget or “zoom” the boss without interruptions – and that situation will not be resolved soon.
“At the very beginning of the pandemic, I enjoyed working from home,” Chen says. “There was more flexibility to arrange work and look after kids, but there were also some problems. Do it for six months and people may feel isolated. You need some connection with colleagues and other people to share and develop a corporate culture, so I can hardly believe this will be a lasting trend. Therefore, the impact on office leasing will be very moderate.”
However, the bigger economic picture will see a continuing “decentralisation” as businesses migrate to lower-cost premises in up-and-coming districts. And as ESG (environmental, social and governance) factors assume greater importance, outside investors will expect developers and property managers to make significant strides in enhancing energy efficiency and environmental care.
“Demand for property is essentially a function of economic growth,” Chen says. “There is rising demand for quality offices in the GBA, and we are already seeing growing residential demand in the region, although some housing policy tightening is expected in the short term. Hong Kong developers have an edge in operating commercial property and offices and, overall, the city is a leader in financial and professional services. As a gateway to capital markets, it can use these advantages to leverage huge demand in mainland China. This will strengthen Hong Kong’s economic growth potential.”