Hong Kong Property
ASSUMING COVERAGE
Going into hibernation
Despite our expectation of further weakness in the property market for the
rest of 2008, we believe share prices have more than reflected this.
Property investors are our preferred play within the sector, given the solid
demand of office space and the robust retail sales in Hong Kong.
■ Physical property to correct by 10% for the rest of 2008. We expect the
Hong Kong residential market to see a price correction of about 5-10% in the
mass market and 10-15% at the high end. The sharp deterioration in the
financial market and its impact on the higher-income group and negative
wealth effect is likely to drag the high-end segment most. Negative real
wages, driven by cost-push inflation, could affect the purchasing power of
the mass residential market in 2008. We expect prices to stay flat in 2009.
■ Rental outlook remains positive. Demand for grade-A office space
remains strong, despite a contraction in the global financial sector. The
widening Central/decentralised office rental gap is likely to drive accelerating
rental growth in areas like Tsim Sha Tsui and Quarry Bay. The weakening
US dollar is expected to have a positive impact on tourist spending in Hong
Kong benefiting landlords with significant exposure to tourist spending.
■ Valuation. We believe that developers’ valuations have factored in more
than a 30% decline in their property development assets. Any improvement
in the clarity of the timing of an interest rate increase would be a strong
catalyst for developers. We prefer Cheung Kong, Sun Hung Kai Properties
and MTRC. Among the investors, we like Great Eagle, Hongkong Land,
Swire and Wharf. We have downgraded Hang Lung Properties to
UNDERPERFORM on its expensive valuation and Kerry Properties and
Hysan to NEUTRAL for their lack of near-term catalysts.

Going into hibernation
Prefer investors to developers
In anticipation for further weakness in the physical property market, we are only selective
buyers of property developers. We have upgraded SHKP to OUTPERFORM from Neutral
and maintain our positive view on Cheung Kong and MTRC. We believe SHKP’s share price
correction has more than reflected the potential correction in the physical market, as the
power struggle issue has settled. Meanwhile, we are still positive on the office demand
outlook for Hong Kong and hence our top picks among the investors are Hongkong Land,
Swire and Wharf. We also like Great Eagle because the company has an abundant war
chest for potential new investments in China hotels and the possibility of a special dividend.
We have downgraded our ratings on Hysan and Kerry Properties to NEUTRAL (from
Outperform) and Hang Lung Properties to UNDERPFORM (from Outperform). We believe
Hysan is not likely to have any near-term catalysts to drive the share price. We prefer
Kerry to Hang Lung Properties for China property exposure. However, we believe that
both companies are still in investment phases and that investors can avoid investing
together with them. Furthermore, we believe valuation of Hang Lung Properties has over
discounted its China property exposure.
Residential – taking a breather
We believe the Hong Kong residential market will go into a quiet period for the rest of 2008,
with price corrections in the mass market of about 5-10% and the high end of 10-15%. The
main reasons for the current consolidation in the property market are as follows.
1) Contracting investment demand for the high end from: a) a potential decline or slow
growth in the high-income class, which is affected by the global contraction in the financial
industry, b) a contracting wealth effect from the stock market, c) a potential rise in holding
costs for investors. 2) Declining real wages in 2008. This will weigh on the mass market,
despite accelerating inflation, which is mainly cost-pushed, the rise in nominal wages is
limited by the fact that most employers’ margins are under pressure from rising costs.
Although we are now assuming that property prices will stay flat in 2009, we believe the
outlook is rather uncertain at this stage, with regard to growth from China’s economy and
the ultimate impact of the global inflationary environment.
Office outlook remains positive
Despite the headwind of the global financial industry, we believe Asian investment banking
operations at most firms are relatively unscathed and their expansion plans are continuing.
Demand for Central office space remains very tight, despite the relocation of some
investment banks to West Kowloon. We expect this trend to continue, unless there is a
sharp turnaround in China’s economy. We expect Central office rents to rise by a further
10% during the rest of 2008 and decentralised offices, such as Tsim Sha Tsui and Hong
Kong East, to see about a 15-20% rise in their office rents due to their sharp rental
differential with Central.
Retail – two-tiered performance
We believe that one of the opportunities of the Hong Kong retail sector lies in the
weakening HK dollar, which traditionally has a strong impact of stimulating tourist arrival
growth. Meanwhile, local consumption may be hindered by the rise in import costs and the
erosion of their purchasing power by the rising CPI. In this regard, we expect shopping
malls in prime locations that target mainly tourists to experience about a 15-25% increase
in retail rents in 2008 and 8% in 2009. Housing estate shopping malls are expected to see
rent increase by 8-10% in 2008 and 5-8% in 2009.

Table of contents
Prefer investors to developers............................................................................................. 6
Property developers – stock ideas .................................................................................. 6
Property investors – stock ideas ..................................................................................... 7
Developers are pricing in a lot worse .............................................................................. 8
Residential – taking a breather .......................................................................................... 11
10% correction for the rest of 2008 ............................................................................... 11
Challenging times for high end...................................................................................... 11
Real wage growth weighs in near-term......................................................................... 14
Outlook for 2009 still uncertain...................................................................................... 15
Affordability is strong..................................................................................................... 16
Demographics is stable................................................................................................. 17
Completion at historical low .......................................................................................... 18
Office outlook remains healthy .......................................................................................... 19
Supply overhang removed ............................................................................................ 19
Where is demand coming from? ................................................................................... 21
Where are we in the cycle?........................................................................................... 21
Latest rental trends ............................................................................................................ 23
Retail – two-tiered performance......................................................................................... 25
Threats and opportunities from weakening HK$ (US$)................................................. 25
Companies........................................................................................................................ 28
Cheung Kong Holdings – A consistent volume player ................................................. 29
Henderson Land Development – Struggling for development earnings....................... 33
Sino Land – A high-beta play on Hong Kong property................................................. 37
Sun Hung Kai Properties – Unvalued for its quality ..................................................... 41
Kerry Properties – Preferred exposure to China ........................................................... 45
MTR Corporation – Best of both worlds ........................................................................ 49
Great Eagle Hdg. – Potential investment in China hotels ............................................. 53
Hongkong Land Holdings – Earnings sweeteners from property developments ......... 56
Hysan Development Co. – Lack of near-term drivers ................................................... 60
Hang Lung Properties – Overvalued for just the starting of an investment phase ....... 64
Swire Pacific 'A' – Prime beneficiary of decentralization.............................................. 67
Wharf Holdings – Leverage on both office and retail rents ........................................... 72