Investment sentiment in Hong Kong's property market is cooling as both external and internal uncertainties weigh in.

While some purchasers have become cautious and are delaying making investment decisions given the current uncertainties, vendors with holding power have been in no mood to back down on pricing. This tug-of war is expected to persist for at least the next six to nine months while the transaction volumes are expected to remain below 2010 levels as the gap between asking prices and purchase prices widens.

Investment sentiment was hit by a series of events after Chinese New Year as the central government continued its quest to curb inflation by raising interest rates and the capital adequacy ratio by 0.25 and 0.5 percentage points respectively in the first two months of 2011.

The move not only tightened liquidity further and reduced capital flow from the mainland, but also induced some local banks to reallocate their loan books from the local mortgage market to the mainland interbank market. This also led to a gradual increase in local mortgage rates, especially for HIBOR-based mortgages.

More recently, the uprising in North African nations and the war in Libya as well as the earthquake and subsequent nuclear crisis in Japan, have all cast further doubt on global economies and curbed investment appetite, with more and more purchasers maintaining a wait-and-see attitude.

Most of the uncertainties clouding the market, such as the uprisings in North Africa and the disaster in Japan, may have only an indirect impact on the local property market and be short term in nature.

Nevertheless, the monetary tightening measures in the mainland look set to continue, which may in turn slow the flow of mainland funds into the territory, and thus have a wider impact on the appetite of mainland residents for local property investment, especially in the luxury residential sector.

The gradual rises in mortgage rates by some local banks may be an early sign of the end of the "super" low interest rate era, as local banks find other more profitable channels through which to make use of their loan books. Although it is still premature to talk about a possible interest rate hike, the higher cost of capital may gradually alter the yield demand of property investors, capping further capital appreciation with corresponding rental growth.

Therefore, I reaffirm the view that price growth in most property sectors should be more in line with, if not slower than, rental growth for the remainder of the year; and that the commercial markets should in general outperform the residential sector on both the rental and pricing fronts.

The author is head of research and consultancy at Savills Hong Kong, a subsidiary of global real estate services provider Savills plc. The opinions expressed here are entirely his own.

(HK Edition 04/15/2011 page2)