Investors in retail property are shifting their sights from traditional hotspots such as Causeway Bay and Central to further afield as landlords put the squeeze on business owners. Most property analysts believe a structural change in the economy is taking place that will pay long-term dividends to investors with foresight. It might be too late, they say, to snatch real property bargains in red-hot shopping areas, but there are some good deals around to capture the momentum in the retail sector. Colliers International estimates retail property prices will rise 22 per cent this year, while retail rents will rise between 35 and 40 per cent. The forecast is based on a projection that interest rates will rise a further 1 percentage point, bringing the total rate increase this year to 150 basis points. Historically, rental yields in Hong Kong rise or fall in line with interest rates, but the consultancy cautions that aggressive interest-rate hikes of 250 basis points could slow capital growth to 12 per cent. Retail rents in major shopping districts are rising at roughly 10 per cent every three months. One area to watch, says Simon Lo, director of research and consultancy at Colliers International, is the rapidly changing face of Tsim Sha Tsui. Ten major construction projects are due for completion between 2006 and 2010. The projects encompass infrastructure, tourism and street enhancements, changes which promise to transform the district into a pedestrian-friendly shopping oasis. The already completed Kowloon Canton Railway (KCR) East Tsim Sha Tsui station, which opened last autumn, is a catalyst for the transformation. 'All of them will have a substantial impact,' Mr Lo said, referring to the projects under way. In anticipation of the coming changes, rents have rocketed 13 per cent in each of the last two quarters. In the broad market since the third quarter of 2003, average rents in the four major shopping areas have risen 70 per cent, while capital prices have more than doubled. Mr Lo says areas surrounding the main walkways in Tsim Sha Tsui could be some of the best-value spots. They haven't caught on with tourists or locals yet, he says, referring to the East Tsim Sha Tsui area, but says given time they are likely to prove popular. The example illustrates his view that best value lies in emerging sub-markets, areas which border the larger retail zones but lag the price run up. 'As shop prices in prime areas are so high, there is a trend of investors looking for buys in other locations such as Yuen Long, Tsuen Wan and Kwun Tong,' he says. Shops in areas with a dense population are particularly in demand. For example, a retail shop in Yuen Long currently occupied by a Chinese restaurant was sold recently together with a smaller property in Tai Po Road to a local investor for $450 million. As the surge in capital values outpaces rental increases, investment yield has fallen to 3 per cent from 5 per cent two years ago. But the prospect of rising rents continues to draw investors, with prime retail sites being sold at higher rates. For example, in March, the Emperor Group purchased a retail shop on the ground floor of 56 Russell Street for $212 million, representing an average price of about $46,000 per square foot. A retail unit at East point Road in Causeway Bay was sold earlier for $220 million, translating into an average of $66,869 per sqft. Retailers selling audio-video products, cosmetics and jewellery, the major beneficiaries of the influx of mainland tourists, are particularly aggressive and show no signs of backing off expansion plans. Banks are also expanding their retail presence. Joe Lin, director of retail services at CB Richard Ellis, said retailers benefiting from the rising number of mainland tourists were scrambling for shops. Many, however, are opting for shopping malls rather than expensive shop fronts. 'The feel-good factor continues to boost sentiment and rents in the retail sector,' he says. 'The stock of shops in prime districts is very limited. Retailers will mostly stay and renew leases for their existing shops even at sharply higher rents instead of relocating. It is difficult to find shops in good locations.' He said retail rents would rise further this year although some retailers might baulk at higher prices and review their expansion plans. Herrick Lee, director of investment at Colliers International, said the Langham Place complex's completion last year had enhanced the flow of shoppers in Mongkok and brought in more customers to the side streets. This has attracted a number of investors to snap up shops around Mongkok and boosted values there. The newly developed APM shopping mall in Kwun Tong should also present investment opportunities for shops in the area. Landlords and retailers are reformulating their retail strategy to capture the growing market opportunities. Some landlords are converting office space into retail use. Chinese Estates Holdings is going to tear down the Tung Ying Building in Tsim Sha Tsui to redevelop a retail complex on the site. To ride on the retail boom, Lifestyle International is investing $100 million to open a second Sogo department store in Tsim Sha Tsui. Henry Lam, executive director of investment properties at CB Richard Ellis, said retail property prices would continue to rise although the growth rate would ease. 'Hong Kong is the best retail market in China. There remains a lot of investment opportunities in many locations such as Tsim Sha Tsui, Wan Chai, Central and even Aberdeen, Tuen Mun and Yuen Long,' he said. 'The prospect is still positive for retail investment. Investors will pick properties selectively and shift to less popular streets for better opportunities.' In Tsim Sha Tsui, there is a severe lack of stock for sale in the core streets and investors are looking for shops in secondary streets. The retail and commercial complex being built in Hanoi Road is also expected to lift the shopping profile in the vicinity, but prices have already begun to move. A 2,013 sqft shop at 67 and 69 Granville Road was sold for $79.8 million in November last year and was resold for $96.38 million within three months. Merrill Lynch cautioned in a recent report the recovery in the residential property market looks tired, but retail could see further upside thanks to the tourism boom. After studying the numbers of six major clothing retailers, it concluded there is room to boost retail rents further given the buoyant sales outlook. However, it cautioned that if the pace of rate increases continues, many retailers will face shrinking profitability by next year. 'From here on rental rate increases are going to be more closely related to retail sales than what we have been seeing since 2003,' the report said. Of the retailers studied, rents typically make up between 10 and 20 per cent of turnover. Merrill Lynch has a 'buy' recommendation on Henderson Investment and MTRC, saying both companies should benefit from ongoing property trends.