Real Estate Return in Hong Kong and its Determinants: A Dynamic Gordon Model Analysis
Posted: 24 Mar 2020 Last revised: 9 Nov 2020
Date Written: January 26, 2020
The long-term upward trend in Hong Kong's housing price and its ever-increasing price-rent ratio has caused extensive concern from investors and researchers. Dynamic Gordon Model ties an asset's worth to the expected value of the future payoff stream accruing to the asset, and it has been widely used in the literature on finance and real estate asset. As far as we know, this model has not been applied to the research on the Hong Kong real estate market. In this paper, we used this model to analyze the quarterly date of Hong Kong housing prices and other economic indicators from 1999 to 2019.
First, the real value of the housing investment return which includes the rent and the housing price increase is calculated, and it was spilled into rent growth, risk-free interest rate, housing investment premium. Then we tested if these three kinds of returns were influenced by unemployment, population growth, and real income growth. In the end, in the framework of Dynamic Gordon Model, we used the VAR approach to present how the expectation value of rent growth, risk-free interest rate, housing investment premium has influenced the price-rent ratio of this city.
Here are our main findings:
(1) The average real return rate of housing investment in Hong Kong is 2.87% in the quarter, with a first-order autoregressive coefficient of 0.571, show that housing return is positively influenced by its past market situation.
(2) The risk-free rate is mainly influenced by its value in last period, the real estate rent rate is mainly influenced by the investment premium in last period and income growth, investment premium is affected by risk-free rate and unemployment.
(3) The decline in the risk-free rate in Hong Kong is the main reason that the price-rent ratio went up from 20 to 40 in the last twenty years.
As the real interest rate is so low for years, we think the housing market will suffer from great pressure if there comes an expectation in a risk-free rate increase.
Keywords: Price-rent ratio; Dynamic Gordon Model; Real Estate Return; Investment premium ; Cap Rate; Hong Kong
JEL Classification: C32, C58; E43; G12; G15; R3
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