Hong Kong conditions are right for co-living

    Circumstances are right for entry into the Hong Kong market, writes Iris Lai

    Hong Kong’s residential real estate market has fared better than many peers through the recent challenges of covid-19, US-China trade tensions and 2019 social unrest. The housing price index rose 6 percent from January 2019 to March 2022, according to the Hong Kong Rating and Valuation Department.

    While economic headwinds and covid-19 have reduced corporate demand for offices and border closures have dampened the retail and hotel sectors, the residential market has held up quite well.

    Asset manager Value Partners Group’s head of real estate, Rachel Tong, notes that “there is still positive carry for most residential assets.”

    Investing in Hong Kong for sale residential through redevelopment is “in-line with the government’s housing policy and healthy pricing outlook,” says Joelin Ma, director of real estate, Asia-Pacific at Dutch pension investor APG Asset Management. It represents a “defensive asset class,” supported by fundamental supply scarcity, strong purchasing liquidity and population inflow from the Greater Bay Area integration with China.

    Among the most attractive ways of investing in the market is in the co-living space, with plenty of opportunities to convert hotels into co-living properties. Multifamily is also always an option.

    “The recent correction in both capital and rental values should make the entry proposition look more attractive,” says Ingrid Chen, head of real estate Hong Kong at investment manager Schroders Capital. Rents are typically higher for serviced apartments, while co-living properties generally generate higher yields than other classes in traditional residential.

    “Recent correction in both capital and rental values should make the entry proposition look more attractive”

    Ingrid Chen
    Schroders Capital

    Supply and demand

    JLL Hong Kong chairman Joseph Tsang says demand always outpaces supply in the city. The government changed the public to private housing supply ratio to 70:30 in 2018, slowing down new private housing construction since 2020 and lifting overall prices.

    “There is very high pent-up demand for homes,” says Samuel Chu, co-founder and chief investment officer at private equity real estate investment group Phoenix Property Investors. “This strong housing demand is driven by the fundamental growth of domestic needs for marriages/divorces but not led primarily by mainlanders.”

    Housing supply is not expected to keep up with demand in either the short or medium term. It is constrained not least by increasing material costs and labor shortages, which have made it more expensive to build. That lack of supply makes the market attractive even despite the current high prices.

    In the wake of covid’s fifth wave with stricter social measures, home rents held up well in the first quarter and the prevailing price correction “will only be short-lived,” says Keith Chan, director and head of research at real estate services firm Cushman & Wakefield Hong Kong.

    Residential prices are projected “to go up by 3 percent to 5 percent” in 2022, says Martin Wong, head of research and consultancy Greater China at property consultancy Knight Frank, with relaxed mortgage rules set to “certainly speed up the recovery.”

    However, An Chen, assistant portfolio manager of Asia-Pacific at real estate manager AEW Real Estate Securities, notes that potential interest rate hikes could be a headwind in the second half of the year.

    The call of co-living

    The pandemic has prompted a rising proportion of institutional funds to enter Hong Kong residential. With borrowing costs set to increase, Chan at Cushman & Wakefield says, “cash-rich investors are welcomed by local players as an alternative source of capital.”

    Hong Kong’s connectivity with China “should continue to buttress the city’s appeal to institutional capital,” notes Chen of Schroders Capital. Institutional and private equity funds are seeking to allocate capital in Hong Kong, primarily in alternative investment classes like co-living, senior living and – beyond residential – data centers for risk diversification.

    Phoenix Property’s Chu says some funds have targeted co-living, including through hotel conversions. This is something that Carol Chow, founder and chairperson of local developer Lofter Group, has also seen.

    “We haven’t seen such active investment for a long while”

    Carol Chow
    Lofter Group

    Pandemic-stricken hotels have attracted investors for conversion into co-living properties, Chow says. Central-located tenement buildings with attractive prices offered by distressed landlords also lure investors. For example, Lofter has teamed up with Singapore-based SC Capital Partners to acquire such aging buildings for HK$418 million ($53 million; €50 million) for residential conversion.

    Co-living’s stable rental income and high occupancy rate of over 95 percent have driven private equity funds’ interest for value-add opportunity. Last November recorded three deals by foreign funds. Chow comments: “We haven’t seen such active investment for a long while.”

    With long-term income yield of about 3.5-4 percent, co-living redevelopment property is “core” for private fund investors as part of asset diversification in Asia-Pacific, says Alvin Leung, director of investment management at Lofter. A number of co-living operators have partnered with foreign funds for investment aiming at long-term stable cashflows, instead of short-to-medium term capital gain.

    Competition is seen for hotel co-living conversions, with a handful of private equity funds seeking targets for potential conversion, says Alan Yau, head of real estate in Hong Kong at KPMG China. These include insurance and pension-backed funds from the US and Europe.

    Co-living suits a high-density city like Hong Kong, where affordable housing options with good amenities in convenient locations catering to young professionals remain scarce. High occupancy during the pandemic “is a testament to the strength of this sector,” says David Fassbender, head of Southeast Asia at PGIM Real Estate.