Real Estate Return in Hong Kong and Its Determinants: A Dynamic Gordon Growth Model Analysis

Abstract

We apply the dynamic Gordon growth model to the Hong Kong real estate market to analyze quarterly data on four kinds of real estate— housing, office, retail, and factory properties—from 1999 to 2020. We find that factories have the highest total returns among the four types of real estate, and also a larger Sharpe ratio. The total returns of these four kinds of real estate are highly correlated. The results of an autoregressive distributed lag model show that the gross domestic product growth rate is the key determinant of real estate returns, while changes in foreign direct investment also influence housing and retail returns. The expected value of the risk-free rate is the key factor that determines the rent-price ratio. The decline in the risk-free rate in Hong Kong is the main reason that the real estate price-rent ratio has increased from 20 to 40 in the last twenty years. Our research represents an early contribution that compares the performance of housing and commercial real estate at the city level, with both types of real estate having similar determinants. Finally, we find that the fall in risk-free interest rates worsens housing affordability in Hong Kong.