Last week, the Hong Kong stock market took a sudden dip of about 500 points within an hour of a suspected case of Middle East Respiratory Syndrome (MERS) being announced. While the claim turned out to be a false alarm, the over-reaction among stock market investors towards MERS did not come out of the blue. Hong Kong still lives under the shadow of the 2003 Severe Acute Respiratory Syndrome (SARS) epidemic, during which the city’s death toll reached close to 300 and socio-economic activities were adversely affected.

A question which naturally comes to my mind upon hearing this news is the extent to which the housing market would be impacted if MERS does reach Hong Kong. Given the similarities between MERS and SARS, let’s compare the current state of the market to that before the SARS outbreak.

Headline data currently points to Hong Kong having a healthier banking system in relation to household mortgages, compared to 2003, reducing the likelihood of panic-driven sell-offs. Under the current mortgage lending restrictive measures, the average LTV ratio of new mortgages drawn has fallen to 52.5% in April 2015, close to 12% lower than the levels in February 2003. In addition, the percentage of outstanding mortgage loans as at end-2014 was only about 12% of total market capitalisation, compared with 28% as at end-2002. Coupled with the government’s experience in handling the SARS epidemic, the cycle-tested profile of investors and the less liquid nature of residential investments due to introduction of resale penalties in recent years (i.e. Special Stamp Duty), any outbreak of MERS should have less of an impact on the market than SARS had in 2003.

That’s not to say that the market is immune to a correction.

Though mass residential prices slid by 12%—and to their lowest point since 2Q91—in the immediate three-month period following the first announced case of SARS, it must be noted that prices, up to that point, had already spiraled 63% downwards from their 1997 peak. The SARS epidemic was therefore just another piece of bad news in an already retreating market. The direction of the market today is quite the opposite; characterised by buoyant sentiment and prices continuing to trend higher despite having already risen 113% since the Global Financial Crisis. Therefore, a reversal in market sentiment could potentially have an unforeseen impact on prices. Moreover, the city’s average affordability ratio—the proportion of household income of an average family that goes to mortgage payment on an average residential unit—has already surpassed the 40%-mark (compared to about 20% in February 2003), raising further concerns over the market’s sustainability.

Source: JLL Research

With the current housing market looking increasingly overvalued, the tipping point may be closer than we think. The culprit may not be MERS alone. Expectations of an imminent interest rate hike, changes in the political environment and other external shocks all have the potential to reverse the fundamental dynamics of the market.

MERS or no MERS, do have your masks ready for any unexpected downslide!

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