Transcript
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Speaker: Hello and welcome to Under the Banyan Tree, where we put Asian markets and economics in context.
Speaker: I'm Fred Newman, Chief Asia Economist here at HSBC.
Speaker: We're very much at the heart of today's discussion here in central Hong Kong.
Speaker: The city has been through some challenging times recently, and what you're here to ask is a long-awaited reset underway.
Speaker: Joining me to help answer that question is Michel Kwok, Head of Hong Kong Equity Research, alongside Greater China Economist Aaron Zinn.
Speaker: Let's jump right into the conversation under the banyan tree.
Speaker: Welcome to the podcast, Michelle and Erin.
Speaker: Hey, Fred.
Speaker: Thanks for having us.
Speaker: So, Michelle, let me start with you.
Speaker: We just published this big report, the Hong Kong Reset, and you really came up with this idea.
Speaker: You were away for a bit of time from the office, about six months.
Speaker: You were on maternity leave.
Speaker: And so coming back, I guess you had sort of this idea about writing more big picture about where Hong Kong is going.
Speaker: What motivated you and what sort of the general thrust of the report?
Speaker: Yeah, Fred, from an equity analyst perspective, it's been very, very difficult the past few years.
Speaker: Market asked about the Hong Kong's future.
Speaker: Clearly, there are a lot of challenges, but we do think there are good things happening on the ground that we feel we should be more aware of.
Speaker: Of course, it's been tough, but that's our job.
Speaker: We're here to guide the market through the volatility.
Speaker: And so we think having a more thorough understanding of what's actually happening on the ground,
Speaker: would be really value-add.
Speaker: So it's a bit of a Hong Kong reset.
Speaker: That's the title for the piece.
Speaker: And I guess part because we had a fairly challenging time in Hong Kong in recent years, of course, COVID lockdowns as anywhere else in the world.
Speaker: And so the economy is now just standing up and coming back.
Speaker: Aaron, let me bring you in here.
Speaker: First quarter GDP numbers were actually quite good.
Speaker: You know, so the reset's already happened.
Speaker: Yeah, so Q1 GDP rose by 2.7%.
Speaker: That largely exceeded market expectations of 0.8% year-on-year.
Speaker: I would say, on the one hand, things are better, but part of it has been driven by the improvement in the net exports.
Speaker: So on the trade side, we have been seeing positive flows, but certainly on a relative basis,
Speaker: slower imports of goods have kind of contributed to a larger contribution from the net export side.
Speaker: There are still challenges to the economy.
Speaker: So we are very much looking closely at the domestic consumption and investment.
Speaker: It did miss some of our expectations on the consumption side as well as the investment.
Speaker: We are seeing headwinds from things like tight monetary conditions that can play a role on the investment side of things.
Speaker: But certainly, we see the Q1 GDP print setting us up for eventual improvement in the coming quarters.
Speaker: So a better start to the year, a bit better than expected.
Speaker: But Aaron, you highlight that it's partly driven by external demand and that domestic side still struggles, partly because of fairly high interest rates.
Speaker: Certainly, we follow the Fed's interest rates, and that means tight monetary conditions.
Speaker: Michel, bringing you in here, property, big driver for the Hong Kong economy.
Speaker: It's known for decades.
Speaker: It's such a prominent sector, right?
Speaker: Do you see any signs of recovery there?
Speaker: Aaron just mentioned high interest rates.
Speaker: I imagine that's still a headwind.
Speaker: And what's sort of the difference between residential and retail, for example?
Speaker: What are you seeing on the property side for Hong Kong?
Speaker: So on the property side, certainly very big challenges.
Speaker: Home price is down around 24% from the peak.
Speaker: And if you were to think about the retail market, retail rent dropped close to 40% from the peak as well.
Speaker: So this is a huge reset.
Speaker: It's been extremely painful to some of the real estate operators, developers, and also landlords.
Speaker: For developers, clearly they're still struggling to preserve the margin level as home prices coming off.
Speaker: And for landlords, they need to think of new ways to ensure they can retain tenants and drive retail sales going forward.
Speaker: So you mentioned that actually retail rents are down.
Speaker: That also raises the prospect of the office market being quite depressed as well.
Speaker: And we read a lot of newspapers about a lot of empty office space, for example.
Speaker: Is that a big issue still in Hong Kong?
Speaker: Yeah, that's a huge issue.
Speaker: And in fact, I think everyone knows that it's consensus view that office remained the toughest real estate segment.
Speaker: It's been tough for quite some time.
Speaker: But with business activity, hopefully, as Aaron mentioned, just picking back up, we could hopefully emerge sooner than later for recovery.
Speaker: But at the very moment, it's still very difficult.
Speaker: So still some challenges there on the property side, of course, particularly in commercial real estate.
Speaker: We see that clearly.
Speaker: And then, of course, Aaron is a function of people's expectations on future business opportunities.
Speaker: We'll fill these vacant offices if there are new investments coming through.
Speaker: What is sort of the one or two sectors that get you most excited in terms of future Hong Kong?
Speaker: There could be growth drivers outside of property and finance and trade that traditionally is driven Hong Kong.
Speaker: Is there something new in the works here that get economists excited?
Speaker: Yeah, so I think, you know, cyclical headwinds aside, we are constructive on the longer term outlook.
Speaker: And that's threefold.
Speaker: One, Hong Kong is a super connector.
Speaker: So regionally, both as a gateway to mainland China for foreign investors to come in and then also mainland Chinese investors to come out.
Speaker: But also in terms of trade,
Speaker: Hong Kong remains one of the key trading hubs.
Speaker: It continues to deepen its linkages with other regional areas like ASEAN as well as the Middle East corridor.
Speaker: But the other areas that Hong Kong government is really pushing and we're seeing a lot more activity is also coming from the fintech as well as the green development side.
Speaker: So fintech in Hong Kong, there's over 1,000 fintech startups.
Speaker: There's been a number of sandboxes that have been launched here.
Speaker: Basically a closed loop system where they can test out new financial technologies.
Speaker: And then on the green development front, we've been seeing that Hong Kong's really trying to be a leader for green finance.
Speaker: Hong Kong accounts for over one third of all of Asia's green bond issuance, and it's also the largest offshore green bond issuer.
Speaker: So it is certainly taking up a lot of discussion about how Hong Kong can both diversify
Speaker: its growth drivers, but at the same time leverage on where it has these comparative advantages, being a window gateway to mainland China regionally, but also having a really strong services, financial services sector.
Speaker: So Aaron, you mentioned, of course, fintech is a financial service ultimately.
Speaker: And that brings me to my next question, Michelle.
Speaker: Financial services, big, big important sector for Hong Kong, been under pressure, of course, the more traditional financial services.
Speaker: You have a chapter in the report about
Speaker: Hong Kong's role as a financial services hub.
Speaker: What are some of the key trends you're seeing there apart from maybe the fintech sandbox startups that are kind of coming up with new products?
Speaker: What about the traditional part?
Speaker: Well, I think the financial system in Hong Kong is challenged by the fact that U.S. rates is clearly higher for longer for the moment.
Speaker: And also the fact that the macro uncertainty tied to mainland China is also playing a key part in the ecosystem in such a way that banks, for example, domestic Hong Kong banks, I would
Speaker: probably just highlight the benefits first, right?
Speaker: We're riding on a high interest rate environment and as such, net interest margin has been holding up quite well.
Speaker: And as such, the return on equity has actually been quite resilient.
Speaker: But if you were to think about Hong Kong as a financial system, the macro uncertainty in mainland China has been an issue.
Speaker: This uncertainty is key is because Hong Kong is extremely skewed towards equity.
Speaker: Hong Kong listed companies market cap is around 10 times the city's GDP.
Speaker: And if we were to think about the broader implication, it is increasingly skewed towards mainland China because companies from mainland China, the market cap of which now account for around 77% of Hong Kong exchange market cap, that's up around 20 percentage point over the course of the last 10 years.
Speaker: So plenty of growth, even in traditional financial services, it sounds like.
Speaker: And I think sometimes we confuse the cyclical and the structural.
Speaker: And now we have a cyclical decline in equity markets, for example, with high U.S. rates.
Speaker: But of course, things change over time.
Speaker: I think we should be careful not to confuse cyclical challenges with structural challenges as well.
Speaker: Aaron, let me bring you in here on the Greater Bay Area idea.
Speaker: You mentioned connectivity is important and you mentioned Asia and Middle East, but there's of course also the integration potential with Shenzhen, with the more immediate neighborhood in China.
Speaker: What do you think is some of the complementarity there that could be unleashed that helps Hong Kong?
Speaker: What is that that Hong Kong could tap into when it comes to our more closer, our neighbors across the border?
Speaker: So the Greater Bay Area includes a number of mainland cities in Guangdong and also including Hong Kong and Macau.
Speaker: The comparative advantages of each of the different cities provides a lot of room for complementarity.
Speaker: And for Hong Kong, of course, a lot of that specialization comes from financial services being a gateway to offshore financing.
Speaker: And I think that, of course, you tie in the technology hub of Shenzhen or the manufacturing hub of Guangzhou.
Speaker: You can really leverage the connectivity here to unleash much more demand and business activity.
Speaker: Which is probably one of the overlooked strengths, then, is that this is not just about Hong Kong.
Speaker: It's about a huge cluster, agglomeration of cities that are very complementary in terms of economic activity.
Speaker: And ultimately, we're not fully integrated yet.
Speaker: And so there's still low-hanging fruit, certainly, for economic growth to come.
Speaker: I think it's a great, great time to take a quick break.
Speaker: And when we come back, we're going to look at why Hong Kongers on Friday night are jamming into the train station in Kowloon to head to the other side of the border.
Speaker: Okay, Michel, well, I mentioned that Hong Kongers are jamming into the Hong Kong train station on Friday night.
Speaker: And that's, of course, because they're heading for the weekend to Shenzhen to enjoy fantastic cooking and cheap tennis lessons, etc.
Speaker: What's going on there?
Speaker: What have we seen on the retail side while Hong Kongers streaming now across the border?
Speaker: Well, people are traveling across the border because it's cheaper.
Speaker: The choices of food restaurants that you can get across the border is more diverse.
Speaker: Shopping and also broadly just experimenting something different.
Speaker: But of course, it's actually now much more convenient to travel across the border.
Speaker: If you were to look at numbers, we had maybe around 115 million people crossing the border by land in 2023.
Speaker: It works out to be around eight trips per person per year.
Speaker: It's quite a big number.
Speaker: But very interestingly, Fred, if you were to look at actually spending pattern, right, we would have thought that, you know, we would be actually asking the question, is Shenzhen really eating Hong Kong's lunch?
Speaker: But interestingly, electronic payment by Hong Kong residents in Shenzhen is only around 3% of non-drill world goods sales in Hong Kong 2023.
Speaker: So it's still a small share.
Speaker: But Aaron, of course, there is the other angle, which is tourism.
Speaker: And Hong Kong's, one of the key industries in Hong Kong was tourism for a long, long time.
Speaker: Some 12 percent of GDP by some measures is accounted for by tourism.
Speaker: Where have we where are we now on this?
Speaker: Because there was an interruption there, of course, during the pandemic.
Speaker: Has that fully normalized?
Speaker: Is our tourists flocking back into Hong Kong?
Speaker: So tourism in Hong Kong has been seeing a recovery.
Speaker: The recovery has been gradual, though.
Speaker: So right now, the inbound tourism flows are probably about 60% of 2018 levels on average per month.
Speaker: A big chunk of that is coming from mainland China.
Speaker: Historically, there are about 80% of all of the inbound tourists.
Speaker: That still is the same ratio now.
Speaker: But certainly there are some fluctuations on the demand of mainland Chinese tourists depending on the timing of the holiday period.
Speaker: So most recently we had the Labor Day holiday which occurred from May 1st to May 5th in mainland China and that was up about 22% year on year.
Speaker: So we already had a reopening of these cross-border flows and I think it's encouraging to see that we are seeing year on year increase here.
Speaker: It is improving, and I think that it will continue to improve in the coming quarters as we have more constructivism coming through for mainland China's consumption as well.
Speaker: So a return of Chinese tourists, and probably it's also worth adding that, of course, Chinese tourists are very sensitive to exchange rates, and the Hong Kong dollar is very strong against the RMB at the moment, and that's maybe not helpful.
Speaker: And so one would expect that over time as exchange rates normalize or change trend, then Hong Kong becomes again a much more attractive destination in terms of the purchasing power of mainlanders.
Speaker: But, Michel, is there another silver lining here?
Speaker: You talked about falling retail rents, for example.
Speaker: Is that starting to revive the retail scene and maybe bring back a bit of retailers to setting up shop here?
Speaker: Yeah, so earlier we talked about retail rent dropping 40%, well, close to 40% since the peak.
Speaker: It's actually interesting to see that we now see a number of domestic F&B brands venturing into Hong Kong to open shop because they want to take advantage of the lower rent rate.
Speaker: And the retail environment is also creating a much more friendly business environment, we would argue, for entrepreneurs looking to set up new businesses just because the cost base is now much lower.
Speaker: So we see there certainly revival coming through.
Speaker: Ultimately, the price adjustment in Hong Kong drives the competitiveness of Hong Kong as a retail destination in other ways as well.
Speaker: Finally, let me ask both of you, what do you think is overlooked in terms of the positives on Hong Kong?
Speaker: A lot of headlines out there that say Hong Kong has lost its edge, it's not as vibrant, we've read all this.
Speaker: But is there anything you could point to to say, well, this is something that, you know, I think long term Hong Kong will prevail and remain an attractive business destination, the hub for the region.
Speaker: Anything come to mind, Michel?
Speaker: Well, certainly for me, it's more than one thing, Fred.
Speaker: I think that the reset in property prices is actually a good thing.
Speaker: The shop correction close to 25% now means that housing is much more affordable in Hong Kong.
Speaker: And so that could be constructive for Hong Kong as a whole for the longer term.
Speaker: But also, interestingly, I think the insurance industry is also doing very well.
Speaker: New business from mainland China, new business premium from mainland China is actually already back to pre-COVID level.
Speaker: Even though the arrivals number that Aaron earlier mentioned is still below the pre-COVID level, business inflow is actually quite resilient.
Speaker: And Aaron, what do you think people miss about Hong Kong, the big picture?
Speaker: I think that Hong Kong is actually very resilient.
Speaker: And after COVID, just on a personal level, I would say it's clear that things are coming back to life.
Speaker: And in the longer term, I'm very excited to see that there's a lot more interest in diversifying, in thinking about innovation, in thinking about what more Hong Kong can do to be more than just a finance or trade center.
Speaker: And I think that's a good reminder, Erin.
Speaker: Hong Kong has reinvented itself many, many times in its history.
Speaker: And I think one thing that stands out is the enormous flexibility of this economy.
Speaker: And so I remain positive on Hong Kong's economy as well.
Speaker: Thank you for joining us and chatting a bit light on Hong Kong's reset.
Speaker: Thank you, Michelle.
Speaker: And thank you, Erin.
Speaker: Thank you.
Speaker: Thank you.
Speaker: And thank you, ladies and gentlemen, for joining us for another great discussion here under the Banyan Tree.
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