Over the past three years, Hong Kong’s economy has experienced unexpectedly high growth, amid the government’s conscious efforts to restore fiscal balance in the region. The immediate knock-on effect is already evident, with companies in the finance and legal sectors, particularly banks and securities houses, keen to secure prime location premises in Hong Kong.

As a result of an increased number of chiefly financial organisations acquiring grade A office space in the core Central district, rental prices have been steadily rising. But although retail spending is up, many businesses outside the finance and legal sectors are finding their growth is not in line with the increase in rentals in traditional areas, such as Wan Chai and Causeway Bay, and they are moving out to de-centralised locations.

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Maximum capacity

There is a significant ‘space squeeze’ in Central, although it is likely to remain a key investment area, chiefly due to the presence of the finance sector. And with a lack of supply of new stock over the next three years, rental prices should stay buoyant.

According to Savills, several prime buildings in Central reached full occupancy in September last year, and deputy managing director Chris Marriott confirmed that in 2006 it was top-tier tenants from the finance industry and professional services firms that remained the main market drivers, continuing to demand space. Money is being poured into renovation and new fit-outs of existing buildings, and companies such Aedas have been contracted to carry out high quality interiors projects, such as the recently completed fit-out and relocation of Pacific Century Insurance’s offices, over eight floors in the Wing On Centre.

Commercial overspill

While Central may be tight on space, there is a huge amount of new development going on in Kowloon, which is transforming itself into a new commercial hub for Hong Kong. This will provide key alternatives for companies that are unprepared to pay Central prices, and as infrastructure links improve, these districts are going to become ever more desirable.

The brand-new MegaBox super-mall in Kowloon Bay, part of Kerry Properties’ Enterprise Square Five development, is flanked by two brand new office towers, one of which has been leased by the Hang Seng bank, relocating from Des Voeux Road in Central. Raymond Or, the bank’s vice-president, explains that the size, location, quality and associated costs of the premises perfectly suited the bank, providing staff with a modern, efficient and comfortable working environment. This move by such a high-profile organisation has re-affirmed developers’ belief and confidence in the future of the emerging business zone.

Sun Hung Kai Properties is developing a major office and retail complex in Kwai Chung, due for completion in 2008, which is already beginning to trigger more redevelopment in the area, emulating the success of Millennium City in Kwun Tong.

Phase 6 of Millennium City is due for completion this year, as well as Enterprise Square Five: in the new Kowloon, high-grade modern office premises nestle alongside futuristic shopping malls, and the area is set for huge growth over the next five years, with a $30bn redevelopment plan to transform the centre of Kwun Tong, anticipating a population of 600,000 by 2012.

With good commercial rental returns in 2006, and office market vacancy figures hitting a 15-year low, many investors have been buying entire blocks of grade A office and industrial premises. Between September and November last year, 85% of all sales transactions over HK$100m ($12.8m) were of this type, demonstrating that existing investors are confident in both the rental yields they can expect and capital appreciation.

Room for growth

Although high rental prices have not yet reached the 1994 peak, suggesting there is certainly room for them to rise further during 2007, and stock investors are predicting that office rentals in Hong Kong as a whole, led by the sub-market in Central, will achieve unprecedented levels this year, increasing by about 10%.

Central is likely to remain a prestigious location, particularly for the financial sector, and as it cannot supply enough high-grade office premises, any investment there is likely to be a safe bet for many years to come, both in terms of rental returns and capital appreciation.

The fast growth is currently in Kowloon, and the smart money would seem to be on the acquisition of entire blocks of new-build, which, although cheaper than Hong Kong Island at present, are likely to increase in value as the area regenerates.

When developers eventually run out of space there as well, there is a danger of prices becoming too rich for a lot of businesses, but there does not seem to be an obvious comparable alternative market.

Distant rival

While the acquisition of and demand for commercial premises is certainly present elsewhere in Asia, Taiwan being a prime example, there is still no real current threat to Hong Kong in terms of return on investment.

That said, the completion of Taiwan’s new high-speed rail link, the lifting of restrictions on Chinese tourists boosting its retail sector, and the demand for luxury housing in Taipei, all echo Hong Kong’s recent regeneration, and Taiwan clearly has room for further growth. It is not in the same league as Hong Kong, but may provide better than average investment opportunities.

If Hong Kong does become too expensive, one solution is for China to open its doors and the Republic seems to be one step ahead, already paving the way for the eventuality that Hong Kong may simply be unable to satisfy the demand from businesses.