market watch
Shanghai surprise
Recent property-cooling measures have dramatically affected Shanghai’s residential real-estate sector — but there’s light at the end of the tunnel and opportunities do exist for shrewd investors. Charles Zhang* explains.
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hanghai real estate started to make investment sense in 1998, when the Chinese central government introduced policies reforming the way housing had been allocated before. The measures ended the distribution of housing by employers and set up new housing finance and market systems.
Property experts have attributed the price drop in the Shanghai market to the huge increase in low-cost housing in the suburbs. At the same time, new supplies of luxury housing have been limited, so the vacancy rate in this sector has dropped. However, the “price drop” makes less economic than statistical sense, since it is affected by the transaction weight of different grades of housing.
A series of policies implemented between 1997 and 1999 included mortgage financing for private home buyers and a preferential tax policy. As a result, the demand for residential properties began to soar. The unification of the overseas and domestic sales residential systems in Shanghai in August 2001 expanded investment options for foreign investors. A heavy investment in fixed assets and a booming export trade accompanied high economic growth in Shanghai in 2003 and 2004. However, in 2005, the government started taking measures to cool the increasingly overheated property market, focusing on mortgage interest rates, down-payment proportions and real-estate tax. This was followed by restrictions on foreigners buying residential properties in August this year. All these measures have led to a slowdown in investment demand, with the Shanghai real-estate market being pulled back to what can be described as a “more rational” level.
Where should investors look?
With such gloomy prospects, are there actually propertyinvestment opportunities in Shanghai right now? All Shanghai commercial properties are buyouts. But when it comes to the residential segment, serviced apartments are investors’ best bet. They are a combination between hotel accommodation and luxury apartments and flexible at absorbing both short- and long-term tenants. Colliers International data show that the rental values of Shanghai’s serviced apartments rose by 8.3 per cent over the past year and they are expected to rise by a further 4 per cent next year. This sector is doing well partly because of the tourism boom — from January to August this year, the number of overseas tourists visiting Shanghai increased by 5.3 percent compared
S Q U A R E F O O T December 15-31, 2006
market watch
to a year before. Some short- to medium-term travellers choose serviced apartments instead of high-end hotels, because of the scarcity of such hotels and cost-effectiveness. The serviced-apartment segment will continue to perform well and is a good investment opportunity for overseas institutional investors. However, since these properties are usually not strata-titled and typically managed by professional companies, individuals cannot invest in them. For individual investors, luxury villas, which can be bought by strata title, can be a good investment in the long term. This segment will suffer from a shortage of new supply due to land restrictions on villas.
With fewer luxury apartments came onto the market in the third quarter of this year, the vacancy rate dropped slightly, but more high-end apartments are expected to come on the market next year and as supply exceeds demand, many developers seem to be converting their properties from sales to lease. This will result in a rise in vacancy rate (to about 16 per cent) and a slight drop (by about one per cent from the year before) in luxuryapartment rentals. Considering current market conditions and government policies, rentals can at most cover holding costs (interest expenses, for example). China’s policies on income tax and purchases of residential properties by foreign individuals will continue to restrict the sales market in the short term. However, looking five years down the line, capital investment is a sensible choice, as long-term fundamental demand is strong, considering Shanghai’s strong economy and increasing openness.
What is the outlook for luxury apartments?
In Shanghai, developers have been targeting the upper end of the property sector, but government controls are aimed at reducing the imbalance and in the third quarter of this year, new luxury residential supplies were limited to only 237 units. Marriott Xinmei Serviced Apartment in the high-rise area of Pudong released 223 units after opening onto the market in August, taking a large section of the supply.
Any good news?
The full liberalisation of China’s retail and financial sectors (in accordance with its World Trade Organisation commitments) will attract large numbers of foreign expatriates. The leasing
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December 15-31, 2006 S Q U A R E F O O T
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and sales markets are not independent of one another and with the shift towards the tertiary industry (including finance and insurance, real estate, transportation and retailing), rising foreign direct investment will make Shanghai an expatriates’ hub. With more people renting, vacancy rates will drop and rental values will go up. As a result, more people should invest in real estate. Luxury-apartment rentals will drop in 2006 and 2007, but, on the upside, it is expected that the whole market will recover in 2008 when much of the new supply is absorbed. There is plenty of supply in both the secondary sales and lease markets, and some potential buyers have adopted a “waitand-see” strategy, but it is expected that this sector, too, will recover in 2008.
If the gap between price and income growth continues for two to three years, it will translate into future opportunities in the Shanghai market. In addition, foreign-trade growth in Shanghai is strong. From January to October this year, the city’s foreign export and import volume reached US$185.5 billion, a 21.9 per cent rise from the same period last year. The boom in foreign trade is an important indicator of improving international economic ties and strong evidence of an influx of expatriates. In the long run, this is good for Shanghai’s leasing market.
Will Shanghai recover?
Yes, it will. The turning point should come in 2008 when the effects of the recent government policies are largely absorbed and the supply-demand relationship reverses. In addition, major upcoming international events such as the 2008 Olympic Games and 2010 Expo can only boost the demand for real estate. * Charles Zhang is Associate Director for Research & Consultancy, Colliers International
Which other factors affect the market?
While real-estate price growth cooled down gradually after 2004 and dropped by about 2.3 per cent over the past year, residents’ per-capital income grew by 10.6 per cent over the same period.
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S Q U A R E F O O T December 15-31, 2006