Office Leasing Market Faces Downward Adjustment

• Hong Kong Grade A office rents decline by 2% in Q3/2023, driven by shrinking demand.
  
  
• Vacancy rate drops by 0.4% due to displacement demand from the imminent redevelopment of KITEC.
  
  
• Market dominated by cost-saving moves, with landlords offering flexible leasing arrangements and assistance with renovation works.
  
  
• Resilience seen in certain sectors like quantitative trading firms and high-end retail.
  
  
• Savills projects that office rents in Hong Kong will range from 0% to -5% in 2024.

Declining office rents reflect shrinking demand
During Q3/2023, the Hong Kong Grade A office market witnessed a 2% decline in rents primarily driven by shrinking demand. However, it is important to note that the vacancy rate also decreased by 0.4%. This decrease can be attributed to displacement demand as tenants sought alternative office spaces, which was caused by the imminent redevelopment of KITEC in Kowloon Bay. For instance, notable tenants such as Hong Kong Broadband and Hospital Authority relocated within the same district.
 
Cost-saving moves shape the market
The market continues to be dominated by cost-saving moves. Landlords in Hong Kong, including Wharf, Hysan, 3 Garden Road, and Hang Lung, are adopting cost-saving measures and offering flexible leasing arrangements. Capital expenditure for office units ranging from 2,000 sq ft to 4,000 sq ft is being provided, with the option to transfer the expenses to the next tenant, providing an attractive option for business seeking smaller office spaces. Some landlords are also assisting with renovation works, which are reflected in the monthly rent, typically adding HK$8 to HK$10 per square foot.

While hardly a cost saving move, UBS has committed to pre-lease 250,000 sq ft in the XRL Topside Development in West Kowloon, aiming to consolidate their offices currently located in Central. Following the acquisition of Credit Suisse, UBS plans to double the pre-committed spaces to 500,000 sq ft (an entire tower of the four-block development). The relocation is expected to occur in phases after 2027.

Challenges in the IPO market and investment banks
The IPO pipeline in Hong Kong continues to be thin, with only 14 deals and HK$6.8 billion raised in funds during Q3. The decline in the stock market, with the Hang Seng Index falling by 6% in the quarter, has further contributed to the reduction in transaction volume. The transaction volume reached its lowest point in five years on October 4, totalling HK$47 billion. So far this year, only HK$24.6 billion has been raised, making 2023 expected to be the worst year for IPOs since 2001. These challenges pose additional difficulties for investment banks.

Quantitative trading firms and high-end retail sectors show resilience in the market
Despite the overall decline in demand, certain sectors have shown resilience in the office leasing market. Quantitative trading firms, known for their ability to generate profits in challenging market conditions, have contributed to demand. These firms are not restricted by geography and can trade in various markets. Additionally, high-end retail sectors, such as watches and art-pieces, have also remained stable compared to other retail sectors, providing support to the office leasing market.

Mr. Jack Tong, Director, Research & Consultancy of Savills commented, “The office market is dominated by cost saving moves with new demand hard to come by.  A more pessimistic outlook may potentially accelerate the full downward cycle, exacerbating the existing challenges.”

Mr. Ricky Lau, Deputy Managing Director, Head of Office Leasing of Savills said, “The Hong Kong office leasing market faces various challenges, including high interest rates, geopolitical tensions, and financial stress among Mainland corporates. These factors could potentially accelerate the decline of office rents and lead to a bottoming-out process sooner than expected over the next year or two. Therefore, we expect the office rents in Hong Kong will range from 0% to -5% in 2024.”

Mr. William Yiu, Deputy Senior Director, Kowloon Office Leasing of Savills said, “The Office for Attracting Strategic Enterprises (OASES) has signed partnership agreements with twenty enterprises from various innovative industries. However, the expansion of office spaces and demand from the innovation and technology (I&T) sectors remain uncertain. Concrete policies, incentive programs, and establishment timelines are needed to assess the full impact of these initiatives.