Sept. 30 (Bloomberg) -- Rental prices for Hong Kong prime offices, the second costliest in the world, may drop as much as 20 percent by the end of next year as banks and investment firms halt expansion and rein in spending.

Five of six analysts surveyed by Bloomberg News forecast rents in the city's Central business district, home to regional headquarters of Merrill Lynch & Co. and bankrupt Lehman Brothers Holdings Inc., will fall between now and the end of 2009.

Almost five years of economic expansion and a flurry of corporate finance activity by Chinese companies seeking funds helped push rents in parts of Central to more than HK$200 ($25.7) per square foot a month. Now, the global credit crunch means costs are starting to get squeezed.

``One thing we can say for certain is that the market has turned,'' said Simon Smith, the Hong Kong-based head of research at property consultant Savills Plc. ``It's a bit difficult to quantify the impact of the banking crisis at this stage. It'll take a few months to play out fully.''

Hong Kong, with Asia's third-biggest stock market, ranked behind only London's West End in property adviser DTZ's global office occupancy costs survey, conducted earlier this year. The study, which took into account rental, maintenance costs and property tax, put the city above Paris, Tokyo and New York City.

Hong Kong's prime office rents surged 33 percent in the 12 months ended May 2008, according to property consultant Colliers International Ltd. Savills's Smith forecasts a drop of between 15 percent and 20 percent in rents in Central from now until year- end 2009. Rents may fall as much as 30 percent in other office districts such as Kowloon East, he said.

U.S. office-vacancy rates will climb to the highest in three years by the end of 2008, according to a report this month by Colliers.

Supply Shortage

Still, in Hong Kong, supply shortages may cushion the impact.

``The supply of prime offices is still very tight,'' said Gilbert Wan, a Hong Kong-based associate director at CB Richard Ellis. ``In a way it'll provide some support to rents in areas like Central. But in decentralized areas it'll be much worse.''

Wan predicts Central rents will fall about 10 percent between now and the end of 2009, while those in Kowloon East may decline 10 percent this year and a further 15 percent next year.

Central's vacancy rate is likely to remain ``very low for the next two quarters'' as there will be no new supply until 2011, Savills's Smith said.

The lack of space in Central offices has driven three long- term tenants away. Morgan Stanley, Credit Suisse Group AG and Deutsche Bank AG have signed agreements to move their Hong Kong headquarters across the harbor to the International Commerce Center in the West Kowloon district, into what will be Hong Kong's tallest tower.

Stay Put

``I'm advising my clients to stay put for at least a quarter or two,'' said Brian Brenner, a Hong Kong-based director at DTZ, which advises multinational banks and companies. ``That's because the terms will probably be more favorable to tenants next year.''

More than 2 million square feet (186,000 square meters) of prime office space are being added to Kowloon East this year. Sino Land Co., the city's fifth-biggest builder by market value, is building the 510,000 square-foot Exchange Tower in the area, while Windsor Properties Ltd. and Manhattan & Manhattan Realty are also developing office complexes in the area.

``There's been a high level of new supply,'' said Savills's Smith. ``That is always going to result in rental cuts as landlords compete for tenants.''

Landlord Shares

The Hang Seng Property Index, which tracks six of the city's largest developers, has slumped 49 percent this year, more than the 35 percent drop in the Hang Seng Index, as housing prices reversed the rising trend following a four-year recovery from the trough of 2003.

Home prices in the city fell 4.4 percent between the end of June and August, according to figures from Centaline Property Agency. Credit Suisse's Hong Kong-based analyst Cusson Leung forecast a 5 percent to 10 percent drop in prices in the second half, in a July 8 report.

The city's two biggest commercial landlords fared better. Swire Pacific Ltd., the owner the Pacific Place offices and shopping mall in Admiralty, and the biggest landlord in Hong Kong Island East, fell 37 percent this year. Singapore-listed Hongkong Land Holdings Ltd., which owns Landmark and Exchange Square in Central, is down 39 percent.

To contact the reporter on this story: Kelvin Wong in Hong Kong at kwong40@bloomberg.net

Last Updated: September 29, 2008 20:42 EDT