The Hong Kong property market is expected to gather momentum in the second half of 2003 as SARS and the war in Iraq are now (hopefully) well in the past, and the economy (fingers crossed) shows real signs of recovery.

Reviewing the Hong Kong property market in the first half of 2003, Dr Nelson Wong, Head of Research, Greater China at Jones Lang LaSalle, said the overall demand in the first half of the year remained soft as the economy and sentiment continued to be sluggish. Rentals of high street shops registered a drop of 9 percent while capital values decreased by 10 percent during the first half of 2003.

In the luxury residential sector, average capital value has dropped by 6 percent while rental value has dropped by 12 percent from six months ago.

"Supply of luxury residential developments is limited. Owners in general are less eager to sell, especially as the holding cost is low given the current record-low interest environment, thus giving much resilience to the prices. However, expatriate demand for high-end residential units remained weak, which contributed to the much faster decline in rents," Dr Wong said, adding that there will be a higher level of transaction volume in the second half of 2003 with the launch of a number of large-scale high-end projects.

For the mass residential sector, 2003 has so far been a tough year. Transaction volume, understandably, plummeted in the second quarter and capital value of dropped by 14 percent in the first half of the year.

According to Colliers International, there are a few positive signs for Hong Kong's office property market, which could indicate that the office pendulum might start to swing back in 2004. Trends such as a positive absorption rate, structural changes in demand, continued relocations and narrowing rental premiums in Central, have led Colliers to expect a new property cycle to begin next year.

Piers Brunner, Colliers' Managing Director & Head of the Commercial Division said that the positive absorption rate, after 10 consecutive quarters of negative absorption illustrates that the market may be stabilising.

"There were no major cases of break leases or subleases in the last few months, signifying that most business corporations have already downsized or consolidated their total floor area," he said.

Vacancy rates in the office sector rose, primarily as a result of completion of new buildings such as Two IFC in Central and Cambridge House in Quarry Bay. The overall vacancy rate rose to 11.1 percent and that in Central rose to 14.9 percent. New office supply will peak in 2003 with a total of over 3.2 million sq ft scheduled for this year, among these more than 2.3 million sq ft were launched during the first half of the year.

Many tenants have upgraded to higher quality offices to capitalise on cheaper rents. Lease re-structures have become more common and tenants are increasingly opting for longer leases, for instance, five years or longer to secure competitive rents. This will help lead to a less volatile office market, an important characteristic shared by other cosmopolitan cities such as Tokyo, London and New York, Dr Wong said.

Mr Brunner said he has also seen some structural changes in demand where the requirements for 3,000-5,000 sq ft have been increasingly active.

Looking ahead, the second half of 2003 will continue to be challenging, Dr Wong says. However, "We expect the market to gather pace, and initiatives such as CEPA will give additional thrust to this. If the current momentum can be sustained, we would expect market activities to pick up, especially towards the fourth quarter."

Mr Brunner said he expects the vacancy figure will increase again in the third quarter with completion of International Finance Centre Two, but this will also put pressure on rental rates.

"However, looking into the future, it is unlikely that a sizeable development on a similar scale to Two International Finance Center will come on stream over the next five years. As a result, our analysis shows that the rate of downward adjustments in Central will taper off in the first half of 2004," he said.

For this quarter, he expects vacancies to increase whilst rentals will continue to fall, with overall vacancies increasing 15 percent.

"Thus, Colliers predicts the new property cycle or swing of the property pendulum should begin in mid 2004, given the current trends and indicators," Mr Brunner added.

A similar pattern is expected to follow in the residential, industrial and retails sectors. Both residential prices and rentals are expected to fall another 10 percent for, 15-16 percent for industrial rentals and about 5-10 percent for retail rentals before then.