May 17 (Bloomberg) -- Hong Kong's Hang Seng Index dropped, set for its biggest decline in a month. Sun Hung Kai Properties Ltd. led a slide by developers on concern higher interest rates will damp demand that spurred the fasted economic expansion in eight years in 2004.

``Rising interest rates cause sharp market weakness,'' said Tim Leung, who helps manage $370 million in Asian stocks at IG Investment Management (Hong Kong) Ltd. Increased rates ``make the cost of doing business higher and slows down investment.'' He's been selling developers.

The Hang Seng slid 1.5 percent to 13,652.65 at the lunch break, set for its largest decline since April 18. The Morgan Stanley Capital International Asia Pacific Index of more than 900 stocks lost 0.6 percent to 95.47 at 2:10 p.m. Japan's benchmarks gave up gains as investors ignored better-than-expected economic growth data to focus on signs of deflation.

Australian retail-related stocks fell after clothing retailer Just Group Ltd. cut its earnings forecast. Indexes fell in all other markets opened for trading, except in New Zealand, Malaysia, the Philippines and China.

The Hang Seng posted the biggest decline in Asia. Developers and banks accounted for 38 percent of the drop.

Joseph Yam, the Hong Kong Monetary Authority's chief executive told the city's lawmakers that the HKMA is studying ways to make local interest rates track the U.S. more closely, the South China Morning Post reported yesterday.

`Bad For Stocks'

The Hong Kong Monetary Authority has lifted its key rate eight times since June, in step with increases by the U.S. Federal Reserve. Banks have not raised their rates as many times because of the inflow of money from investors speculating China's yuan will be revalued, which has made more funds available in the city's money markets.

Sun Hung Kai Properties, Hong Kong's biggest developer by market value, fell 1 percent to HK$74.50. Cheung Kong (Holdings) Ltd., the city's second-largest developer, slid 1.1 percent to HK$71. HSBC Holdings Plc, a London-based lender that controls two of Hong Kong's biggest banks, lost 0.8 percent to HK$124.

``Interest rates going up is bad for stock markets,'' said Andrew Clarke, head of institutional sales at Kim Eng Securities Ltd. in Hong Kong. ``If interest rates are going up, so will mortgage rates.''

End of Era

Wheelock & Co. and Henderson Investment Ltd. fell after the Hang Seng Index's compiler said they will be removed from the benchmark on June 6. Wheelock, a developer and department store owner that's been in the index since 1964, slumped 4.6 percent to HK$11.30. Henderson Investment dropped 4 percent to HK$10.90.

Japanese stocks fell after a government report showed deflation deepened more than some economists expected, tempering optimism that growth in the world's second-largest economy will be sustained. Property stocks such as Mitsui Fudosan Co. paced the drop.

The Nikkei 225 Stock Average declined 1.1 percent to 10,830.91 at 2:02 p.m. in Tokyo, after rising as much as 1.1 percent earlier. The Topix index lost 0.9 percent, to 1113.03. The index earlier rose as much as 0.9 percent.

Key indexes reversed early gains after the report also showed Japan's economy, the world's second largest, grew at more than twice the rate economists forecast.

``We got some mixed pictures from the GDP report,'' said Hirofumi Kasai, who oversees the equivalent of $10 billion as chief investment officer at Tokio Marine Asset Management Co. in Tokyo. ``True buyers aren't coming to the market at the moment and people are looking for more clues to buy.''

Australian Retailers Slide

Australia's Just Group sank 17 percent to A$1.80. Earnings before interest, tax and amortization in the 12 months ending July 31 will be between A$67 million ($51 million) and A$73 million, compared with a previous forecast of more than A$80 million.

Coles Myer Ltd., Australia's biggest retailer, fell 1.9 percent to A$8.63. Wesfarmers Ltd., Australia's biggest home- improvement retailer, slumped 1.1 percent to A$35.65.

``There is clearly an underlying slowdown in consumer activity,'' said Michael Peet, a retail analyst at UBS AG in Sydney. ``We've had some pretty good times for consumer spending over the past four to five years and it has got to slow down sometime.''

To contact the reporter on this story: Darren Boey in Hong Kong at dboey@bloomberg.net

Last Updated: May 17, 2005 01:15 EDT