Monday, November 22, 2010
This weekend saw another Eurorevelation - Ireland is/has/will approach the EU/IMF for some money to bail it out. Now whilst this may not be be a surprise to anyone with half a brainstem, it is being presented as a Eurorevelation - when a piece of blindingly obvious euroblx is finally admitted to by the Eurostriches, accompanied, of course, with shock , dismay, resignation and cries of unity and future controls. Of course conjuring 80 gigaeuros out of fresh air is easy these days and even the debt strapped UK is managing to magic up an extra 7 or 8 gigapounds to help (would they mind taking payment in aircraft carriers)? But the real interest is how fast the markets can pack up their field artillery and retrain it from Ireland onto Iberia. With, we imagine, more that a few buying Ireland and selling countries southwest of France today.
The only other news of note was the market's reaction to an S+P downgrade in outlook for New Zealand, which looks a little over-aggressive.
But it is last week’s news in Hong Kong that we want to focus on. Over the past week China and HK engaged in a lot of “micro measures” to counteract the effects of all those QE dollars rushing into emerging markets. For HK property markets these include:
- Punitive tax rates for properties bought and sold in less than 2 years.
- A max loan to value ratio of 50% for properties worth over $12mm HKD (down from 60%, which was down from 70% six months ago).
- Moves to release more land.
TMM are of the view that this is all well and good and likely to work as well as those sandbag barriers and the like erected before hurricane Katrina. The reason is that HK property is an object lesson in the problems of having a pegged or quasi-pegged currency.
When TMM were sitting around in finance classes in their respective universities they were taught that property markets really should come down to purchasing power on the demand side (wages, mortgage rates, credit availability), as well as supply side factors (zoning and land use regulations, etc). As zoning tends not to change that much from year to year and credit policies shouldn’t change much from year to year what you really look for are mortgage rates and wages. All that talk of “rent equivalent housing costs” in inflation data is largely driven by this idea: if you didn’t own a house but rented it how much would your costs move around? On the blackboard that should be some proxy for how much it costs to build a house and how much people can pay for it. Pretty simple right?
In recent history we’ve since learned that the availability of credit is not necessarily stable and that interest rates really don’t follow much of an inflation targeting regime in many places. Nowhere is this more true than in places that pursue either an implicit or explicit dollar peg. To wit look at HK property below with the Hang Seng in Red and Hong Kong Real Rates in Orange. It’s pretty clear that what drives HK property is exactly the same thing as the Hang Seng: real rates.
Now, TMM aren’t calling HK property investors spivvy fools who are investing in something vastly less liquid than HSI futures but... wait... yes, we are! To wit you could just about trade HK property names on Fed funds – it’s abundantly clear that property yields are driven by borrowing costs in HK dollars more than by anything else.
Rents are a little better and do seem to track wages pretty well – if you’re bullish Asian wages longer term then owning these assets at the right point in the real rates cycle isn’t halfway bad, though that time is probably not now.
It is no small wonder to TMM how and why HK locals continue to plow their cash into property and property companies having had a 60% peak to trough decline in property prices only 12 years ago. At least regulators are limiting leverage this time; though that doesn’t stop people destroying their life savings, it may prevent another full blown Asian crisis.
Given where HK property and the relevant equities have run to its worth taking stock of just what you are buying when you buy HK property:
1) Long TUA (2 year notes)/rates. If USD rates increase then this trade looks messy.
2) You’re long the HKD peg staying in place (one would presume an unpegged HK would have higher rates in line with those of China, though that isn’t saying much from a real rates point of view)
3) Financial services in Asia.
4) China capital controls: let’s not kid here, HK is only relevant so long as China’s capital markets remain restricted to foreigners. With China now developing futures, credit default swaps and the like the hissing sound as HK loses its place in Asian capital markets will be all louder if and when China opens up some more.
5) China wage competitiveness: maybe this says something of the company TMM keeps, but if you’re not a broker, trader, banker, capital markets lawyer or auditor in HK, chances are you are involved in manufacturing in Guangdong. The raison d’etre of Guangdong is making it cheaper, and with all the news of Chinese wage rises that’s hard to see that being here to stay.
To that end, TMM would like call HK as ground zero of all that is wrong with global monetary arrangements right now and maybe the most compelling short around. It is TMM’s opinion that the slide in the likes of Sun Hung Kai, Cheung Kong and the like is technically overdone in the short term but here to stay longer term.
After all, what does a sly $3mm USD or $10000 per month buy you here versus here? Purchasing power parity has often been a widowmaker in macro but TMM thinks that the time has come to call it.