History demonstrates that Hong Kong has often seen volatility in its markets, based largely on sentiment rather than hard economic realities. It is this mentality that positions Hong Kong as a trader's paradise offering opportunities galore when markets turn bearish; but, on the flipside, recent history also shows that subjective sentiment can sour the strongest of bull markets, as was the case during the property crash of 1997.

While we remain bullish on the prospects for the Hong Kong economy in 2011, the city needs to take a cautious approach. In other words, the market should remain prudent due to a number of factors which could turn sentiment from positive to negative.

Let's examine four of the main influencing factors more diligently.

First, Hong Kong needs to be conscious of the impact of the sustained low interest rate environment, coupled with significant amounts of available credit in the market. For over two years, interest rates have hovered close to zero in Hong Kong. A sustained period of low interest rates has the ability to profoundly influence how people view debt and affordability.

At present, the overall loan-to-deposit ratio stands at a manageable 77 per cent, according to the Monetary Authority. This is healthy when compared to the excesses of the US and Britain ahead of the financial crisis, where certain lenders posted loan-to-deposit ratios of over 200 per cent.

However, given that interest rates in Hong Kong are expected to remain low for the foreseeable future and economic momentum started the year with a sprint, liquidity will be affected and leverage will increase. In other words, people will be drawn to the affordability of credit and will take advantage of the low rate environment to deploy liquidity into property, securities and other assets. Overall deposits may suffer as a result, which is why we are advising corporations and individuals to guard against the build-up of excessive debt in the banking system.

Second, the sustained period of low interest rates, coupled with the ample liquidity in the market, has led to overheating asset markets. Rising prices in the residential property sector, albeit by speculative buying at the high end, was a sizeable issue last year. Although measures introduced by the government in November have cooled the market, we expect that prices will begin to edge up again after the Lunar New Year. At that stage, we will have a clearer picture of how hot this market is and whether property could be detrimental to economic momentum.

Similarly, the flush of liquidity in Hong Kong and the low-rate environment will probably influence securities investment, which was extremely active last year. The average daily turnover for the first 11 months of 2010 was up 11 per cent, compared with that for the same period in the previous year, according to Hong Kong Exchanges and Clearing. With a range of high-profile initial public offerings slated for this year, securities investment in Hong Kong will be prone to risks of excessive transaction volumes. Overheating is a reality that no one should ignore.

Third, inflation will become a larger issue on both sides of the border, despite solid employment statistics and wage growth. In a recent online poll in mainland China, the Chinese character for zhang, or rise, was voted 'the character of the year', clearly demonstrating the prominent position inflation is playing in the collective consciousness. The significance should not be lost on Hong Kong, which will grapple with its own inflationary pressures.

HSBC forecasts that headline inflation in Hong Kong will reach 4.4 per cent in 2011, after a benign 2.3 per cent consumer price rise in October from a year ago. Food costs will be the most conspicuous consumable item to succumb to inflationary pressures. We also see inflationary pressure being stoked by rental prices in the nearer term. While economic momentum should absorb the impact of inflation, corporations and individuals will not be immune to rising prices driven by robust demand. Consumer confidence may suffer as a result.

Fourth, as Hong Kong remains largely a trade-based economy, it is susceptible to global economic shocks. As demonstrated by the GDP dip brought about by the global financial crisis, Hong Kong and other Asian economies clearly dispelled any myths of market decoupling. Two years on from the peak of the crisis, Hong Kong remains vulnerable to US- and Europe-led global slowdowns, major financial market disruptions and, increasingly, the economic fortunes of mainland China.

We project that global economic activity will remain steady this year. With the prospect of a double-dip recession becoming more remote, a period of slowdown cannot be completely discounted if factors, including the US Federal Reserve's monetary easing, prove ineffectual. Businesses and individuals in Hong Kong should be mindful of this prospect.

Throughout 2010, the city's economy matured after a challenging period and outperformed the vast majority of economic forecasts. In 2011, we expect this momentum to continue and have revised our growth forecast for Hong Kong to 5.2 per cent from 4.7 per cent. Although resilience will continue to serve as a hallmark of this economy, we recommend that the city takes a vigilant approach and remains mindful of these potential issues that have previously adversely affected a confident market.

Mark McCombe is chief executive officer of HSBC, Hong Kong