LPTs pause to gather next wind

The Weekend Australian - Review - - Prime Space - FRANK GEL­BER ECON­O­MIST

IS this the end of the bull run for listed prop­erty trusts? The flat, in­deed neg­a­tive, per­for­mance over the past six months has caused many com­men­ta­tors to ques­tion if their ex­tra­or­di­nary run of ear­lier days can be sus­tained.

In the three years to the end of 2006, LPTs av­er­aged an­nual re­turns of more than 25 per cent, and turned in 16 per cent over the pre­vi­ous decade.

The ar­gu­ment goes that LPTs have had their run, that they have pulled ahead of prop­erty val­ues, that yields are too low, that prop­erty trust op­er­a­tions have been mixed up with other busi­nesses such as de­vel­op­ment and are no longer pure, that LPT yields be­low bond rates don’t make sense be­cause of the rel­a­tive se­cu­rity of bond as­sets, that su­per funds should re- weight to­wards other as­set classes, that LPT prices have peaked and that LPTs will lag over the next few years.

Rub­bish. That’s all eq­uity an­a­lyst speak and doesn’t make sense to me.

Shares ain’t just shares. I like to look at the as­sets un­der­pin­ning a share to un­der­stand how it will per­form. BHP isn’t just a share — it’s an op­er­at­ing com­pany. Sure, it can fall in and out of favour, thereby af­fect­ing the share price in the short term. But medi­umterm share per­for­mance will be driven by the com­pany’s op­er­a­tions.

LPTs op­er­ate in prop­erty mar­kets. And those prop­erty mar­kets hap­pen to be of par­tic­u­lar in­ter­est to me.

Prop­erty mar­kets will be strong over the next few years, not weak. I’m a pa­tient in­vestor and, for me, any weak­en­ing in share prices due to mar­ket sen­ti­ment rather than mar­ket re­al­i­ties present an op­por­tu­nity.

Let’s work through some of neg­a­tive ar­gu­ments.

On the yields ar­gu­ment, my re­sponse is that prop­erty is a real as­set.

Re­turns on prop­erty do not in­clude just the yield. The larger part of the ex­tra­or­di­nary re­turns ex­pe­ri­enced in the last decade have been as­so­ci­ated

the with cap­i­tal growth ( rather than rental in­come). In fact, it is that firm­ing of prop­erty yields which is now caus­ing con­cern about the re­la­tion­ship with bond yields.

Bonds are



real- value as­set with the nom­i­nal re­turns locked in at the be­gin­ning.

When bond yields rise, bond prices fall.

Ac­tu­ally, world­wide bond rates are still low — that is what’s driven the private eq­uity boom as well as the strength of in­vest­ment mar­kets around the world. They have re­cently started to rise and could rise a lot fur­ther.

There is noth­ing to say that prop­erty yields should be higher than bond yields.

It’s nice when they are. That’s what drove an ear­lier surge of in­vest­ment into prop­erty, us­ing se­cu­rity of cash flows to gear up prop­erty in­vest­ments that ‘‘ washed their faces’’ with yields above in­ter­est costs.

The private eq­uity logic went through prop­erty mar­kets long be­fore we saw it in eq­uity mar­kets, largely be­cause cash flow for some kinds of prop­erty were more se­cure than for com­pa­nies, though strongly ris­ing and con­sis­tent profit re­sults for com­pa­nies over sev­eral years have now boosted con­fi­dence ( and the as­sess­ment of risk) to al­low more con­fi­dent gear­ing.

But when yields fell be­low in­ter­est costs, the surge into prop­erty con­tin­ued, with no short­age of ar­rangers tak­ing a fee on the way in and a fee on the way through and re­ly­ing on in­come and cap­i­tal growth to boost re­turns.

Even the con­cerns with se­cu­rity of in­come to ser­vice debt started to soften as in­vestors recog­nised the strength of leas­ing mar­kets.

To me, in the cur­rent en­vi­ron­ment bonds are a more risky in­vest­ment than prop­erty.

On the point that LPTs in­clude prop­erty as­sets sta­pled to prop­erty op­er­a­tions such as funds man­age­ment, de­vel­op­ment or con­struc­tion, my re­sponse is that this is noth­ing new.

The strong per­for­mance of the last few years has in­cluded th­ese sorts of sta­pled ac­tiv­i­ties. The ques­tion is how they will per­form over the next few years.

The point is that we are just en­ter­ing a strong phase for prop­erty mar­kets that will un­der­pin LPT re­turns.

To­tal re­turns will be dom­i­nated by cap­i­tal growth and aug­mented by yield.

Re­tail prop­erty will be un­der­pinned by strong re­tail sales. In­dus­trial prop­erty is ben­e­fit­ing from a strong phase of in­vest­ment in the econ­omy. The short­age of ho­tel rooms means that the ho­tel mar­ket is about to ex­pe­ri­ence a sub­stan­tial boost to rev­enues and prices. And com­mer­cial of­fice prop­erty is on the thresh­old of a ma­jor con­struc- tion phase as strong de­mand is be­ing con­fronted with a short­age of sup­ply, lead­ing to ris­ing rents, firm­ing yields and ris­ing prices.

We fore­cast solid to strong in­ter­nal rates of re­turn in most non- res­i­den­tial prop­erty mar­kets over the next few years.

That should be re­flected in in­come growth and reval­u­a­tions, un­der­pin­ning healthy re­turns to the prop­erty in­vest­ment com­po­nents of LPTs.

And sure there are other op­er­a­tions sta­pled to prop­erty. But those op­er­a­tions will also be ex­pe­ri­enc­ing strong, in some cases boom, con­di­tions and should on av­er­age do ex­tremely well.

To look at the last six months of weaker per­for­mance as a pre­cur­sor to fu­ture re­turns doesn’t make sense. To me, this is just a pause gath­er­ing the strength to un­der­pin the next up­ward move­ment.

There will be a time to sell. But this isn’t it.

Newspapers in English

Newspapers from Australia

© PressReader. All rights reserved.