Report: Hong Kong Must Change REIT Rules, Current System 'Failing'

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It is "imperative" that Hong Kong overhauls its rules on listed property funds if it is going to remain a property hub, according to a new report, or risk losing out to its regional rivals.

There have only been nine offerings of real estate investment trusts (REITs) in Hong Kong since the rules for their creation came into effect in 2003. That is "substantially lagging the growth of other REIT markets in the region," according to a report from the Hong Kong Financial Services Development Council. Japan has seen 41 listings, Singapore 28 and Malaysia 16.

Hong Kong's REITs "are facing a much tougher operating environment than regional markets such as Singapore and Malaysia, which are more proactive in growing their REIT markets," the report finds. 

In fact, even local property companies that could spin assets off into REITs in Hong Kong have been opting to list overseas, to avoid the restrictive regulations covering listed property funds in Hong Kong. 

"These incidents highlighted the unpopularity of the H-REIT as a capital raising product for sponsors and the failure of the H-REIT as a platform to build up Hong Kong's capital market," the paper states.

Industry participants agree that things need to change. The impact of REITs in Hong Kong has been "muted" compared with their effect in Australia and Singapore, according to Peter Mitchell, the CEO of the Asia Pacific Real Estate Association, or APREA, which represents the listed real estate sector.

For instance, REITs should be allowed to develop property, something that they are so far barred from doing, and an activity they are allowed to do on a limited basis in other markets. At the moment, Hong Kong's REITs aren't even able to rebuild their own aging properties, meaning their developments get older and older, and more costly to repair.

Hong Kong's first listed property fund, The Link REIT, went public in 2005, with a portfolio of suburban shopping malls and parking lots. It remains Asia's largest REIT, with a market capitalization of US$10.2 billion.

There has been some innovation in Hong Kong, with Huixian Real Estate Investment Trust becoming the first renminbi-denominated property trust to list when it went public in 2011.

But the highlights have been few and far between. The lack of activity is very clear in the capital markets. Whereas there have been 23 stock offerings from REITs in Singapore so far this year, including initial public offerings and secondary share sales, there have been none in Hong Kong. Japan, the largest REIT market in Asia, has seen 26 share sales so far this year. 

Hong Kong needs to become more competitive or risk losing out, the council states. For instance, Hong Kong's pension fund scheme, the Mandatory Provident Fund, could be a huge source of investment. But for now, MPF funds can only invest a maximum of 10 percent of their assets in REITs, even though REITs, with a lower investment risk than normal shares and high dividend payouts, are well-suited as a pension fund investment. In Singapore, the cap is set at 35 percent for pension funds, and there's no limit in Australia.

Unlike other countries, REITs in Hong Kong also don't get any special tax treatment. The financial-services council suggests they should be exempt from tax on rental income.

Bill Strong, Morgan Stanley's co-CEO for the Asia Pacific region and a member of the Financial Services Development Council, said such hindrances were holding Hong Kong back. China might soon surpass Hong Kong as a REIT market, even though Hong Kong, as a financial hub, should have a much greater influence.

"Other markets are not standing still," he said in an interview with the South China Morning Post. "Hong Kong needs to act quickly to catch up."