28 October 2016
A flat in Taikoo Shing broke price records in a recent transaction, fueling worry about a property bubble. Photo: HKEJ
A flat in Taikoo Shing broke price records in a recent transaction, fueling worry about a property bubble. Photo: HKEJ

What will trigger a collapse of Hong Kong home market

There have been a lot of reports on housing prices setting new highs recently, which could be a contrarian indicator suggesting prices will level off.

The property market has undoubtedly become red-hot and even starting to look like a bubble.

When will the bubble burst?

Will the US rate hike become a trigger for that?

When things reach an extreme, they will move in the opposite direction.

Will the housing price go through a cyclical correction?

Various indicators point to home prices likely moving south in the second half of this year, as a result of the uptrend in the US dollar index, record numbers of new home sales, peaking growth in newly approved mortgages and an abnormally low price gap between large and small flats.

However, which factor will be the catalyst for a fall in housing prices?

It’s widely considered that the US rate hike could trigger the shift. Is this true?

There’s a 50-50 chance that the US Federal Reserve will hike interest rates this year.

I pointed out in last year’s second half that a rate increase will be postponed until late this year or even early next year.

Instead, the Fed could even consider a fresh round of monetary easing measures.

However, the market has constantly readjusted its expectations for the timing of the rate hike.

The Fed funds futures indicate a narrowing chance of a rate increase this year.

The market estimates the chance of the rate increase in the Federal Open Market Committee (FOMC) meeting at zero in June, 21 percent in September and 49 percent in December.

That shows that market participants are evenly divided over the odds of a rate hike this year.

Also, the rate increase could be a fairly slow process.

The current economic situation and potential deflation risk do not support an aggressive rate increase.

The consumer price index in the US retreated 0.1 percent in March from the year before.

It’s easier said than done for the Fed to achieve yield normalization.

The Fed has to scale back its balance sheet as much as 50 percent, or more than US$2 trillion, equivalent to over 12 percent of the country’s gross domestic product, if the government wants the short-term yield to return to normal levels above 2 percent.

Moreover, housing prices are not that sensitive to rate increases.

In fact, home prices have gone the opposite direction from mortgage rates for over 10 years.

And home prices have deviated from long-standing low mortgage rates since 2011.

Also, the real interest rate in Hong Kong is in negative territory if inflation is considered.

Therefore, a mild US rate hike would have very limited impact on the city’s home prices.

That being said, it’s unlikely that the US rate hike will trigger a housing market meltdown.

Nevertheless, the sell-off of government bonds could be the catalyst.

The global market for government bonds is a crowded one, and therefore, any market development could lead to spiking yields.

In fact, the 10-year US treasury yield has surged from 1.86 percent to 2.3 percent within a month.

Risk remains despite easing concerns about the sovereign debt crisis.

The Fed might be forced to hike interest rates in light of surging debt yields.

Investors should watch market developments closely.

This article appeared in the Hong Kone Economic Journal on May 21.

Translation by Julie Zhu

[Chinese version中文版]

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Hong Kong Economic Journal chief economist and strategist

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