Hong Kong Property: Look beyond the subdued market

Please refer to page 78 for important disclosures and analyst certification, or on our website www.macquarie.com/research/disclosures. HONG KONG Real rolling saleable supply in HK (shaded in red) Source: Transport and Housing Bureau, Macquarie Research, June 2016 Macquarie Properties Performance Index (MPPI) – Proprietary primary sales index for HK property Source: Macquarie Research, June 2016 HK property 2016 preference Hong Kong developers > Hong Kong landlords HK Grade-A office > HK retail, hotel and industrial HK ‘Central’ Grade-A office > Decentralised Grade-A office Mass retail > Luxury retail Source: Macquarie Research, June 2016 Top picks (all rated Outperform) Price TP TSR LC LC (%) Developers 16 HK Sun Hung Kai 90.40 131.24 49% 1113 HK CK Property 47.60 66.34 42% 20 HK Wheelock 34.75 41.20 22% Landlords HKL SP Hongkong Land 6.03 8.40 42% REITs 823 HK Link REIT 51.05 59.70 21% Source: Bloomberg, Macquarie Research, June 2016 Closing as of 13 June 2016 Analyst(s) Raymond Liu, CFA +852 3922 3629 raymond.liu@macquarie.com David Ng, CFA +852 3922 1291 david.ng@macquarie.com Jensen Hui +852 3922 3373 jensen.hui@macquarie.com 16 June 2016 Macquarie Capital Limited Hong Kong Property Look beyond the subdued market Market stabilizing post first US interest rate hike in 10 years We maintain our anti-consensus positive view on HK developers in 2H16 and believe the HK physical market has passed the most vulnerable period (Dec 15–Jun 16) post the US interest rate hike, the first since 2006. Its impact was largely offset by banks cutting mortgage rates in early April. We believe a gradual stabilization of the physical market, along with what we see as an overreaction in share prices on bearish sentiment and the market overlooking fundamentals, offer a good investment opportunity. We expect 2016 property prices -6% (YTD: -6%) and -5% in 2017, but don’t see a market crash. We view HK developers offering the highest risk/reward return, followed by the office space with the best fundamentals. We downgrade Kerry Properties from OP to N. We also adjust our target prices and estimates for HK developers (see Fig 3). 5 investment criteria and 3 stock picks We have identified five major investment criteria in stock selection for share price outperformance in the coming 12 months with 3 winners (our picks): Sun Hung Kai, CK Property and Wheelock. These key investment criteria are: 1) earnings growth momentum; 2) expansion of market share; 3) diversification of sales risk; 4) healthy financial positions; and 5) company-specific events. Focus on growth: No market crash, no policy removal We expect HK property prices to fall 5% in 2017 due to weakening fundamentals. Separately, we don’t expect any policy reversal in the coming 12 months unless there are fears of an economic recession or significant job losses. Developers could be more motivated to sell due to a lack of price appreciation in the next few years. Quality developers, with good land banks and execution capability should offer good earnings visibility and growth in the coming years. We view any removal of policy as a positive share price catalyst. Debunking the myth of “92k” units available for sale We provide a differentiated analysis on the figure of 92k units available for sale by the government. We believe the market has interpreted the figure wrongly as an argument of oversupply. Our findings show that 1) immediate saleable inventories have been ranging from 30-35k units over the last decade, or ~2 years of sales; 2) there are no oversupply issues; 3) the vacancy rate further declined to 3.7% due to net incremental household housing demand. Some positives popping up, not all negatives We note several positives in the HK property market. These include 1) a gradual return of mass market buyers and investors for the residential market; 2) softening in land price; 3) a mortgage rate cut in April and 4) buoyant office demand. The vacancy rate of Central Office remained low at 1.4% with rental growth of 2.6% YTD, supported by demand from Chinese financials. Conversely, there was 1) a property price decline of 6% YTD; 2) an April 16 retail sales decline of 7.5%; and 3) GDP growth deceleration from 1.9% to 0.8% in 1Q16. Valuation reflecting negatives: 9.4x PE, 0.5 PB, 4.1% yield We see some selective buying opportunities in HK developers on what we believe to be the market’s overly bearish sentiment. Key risks: 1) material capital outflow; 2) economic recession; and 3) stock market crisis. 40608010012014016001020304050607080901002004200520062007200820092010201120122013201420151Q16Completed but unsold unitsPUD -available for presalesProperty Price (RHS)20%30%40%50%60%70%80%90%100%Sep-13Dec-13Mar-14Jun-14Sep-14Dec-14Mar-15Jun-15Sep-15Dec-15Mar-16OverallTop-6 developers Macquarie Research Hong Kong Property 16 June 2016 2 Look beyond the subdued market The most vulnerable period was over We maintain our anti-consensus