Relatively low interest rates have undeniably served to boost property values in general and more investors are currently investing in commercial property.

This, particularly given that key support factors – namely rentals and vacancies - are improving. Replacement and new building supply is furthermore constrained by high development costs and this is helping to keep oversupply in check.

There remains some debate around retail oversupply but there is no denying that consumer spend and sales growth has been largely attributable to strong consumer confidence; this is however, coming down and the low savings to disposable income ratios continue to pose structural concerns going forward. Clearly, over exuberant spending is promoting growth in money supply and this is an area that we would be monitoring closely going forward; this in fact is a reason for the repo rate remaining unchanged at 7%.
 
“The industrial sector has seen solid growth in the past year and the lower interest rate has resulted in growth in warehousing and distribution activity in particular, with positive implications for both real rental growth and low vacancy rates,” comments Les Weil, executive chairman of JHI Real Estate.

The exchange rate is an important consideration for this sector, not only as it ensures that interest rates do not rise, but also because it is key to investment confidence broadly. However, we note that although not explicit, the deemed fair value exchange rate is increasingly relevant to where interest rate levels go – particularly as about 80% of Rand movement is directly passed through to inflation.

Keeping this balance remains critical and for obvious reasons, as far as property is concerned, we generally prefer to see a stronger Rand than the converse. We also take stock that SA export growth has renewed, largely confirming that current exchange rate levels are less of a concern than was perhaps the case earlier this year.
 
“We anticipate a strong industrial led property expansion phase. Here interest rates remain critical for development, which involves high initial capital outlay and where debt funding is usually involved.

In a buoyant market such as presently experienced, the stability and predictability of interest rates becomes crucial in helping to structure finance. In the context of our rational monetary policy approach, we believe this is most supportive of structured finance. The fact that interest rates could go up or down is not as important as the absence of unpredictable volatility.

On this matter we take cognizance of the fact that over the next two years, the spread in prime interest rate forecasts between the highest and lowest estimates, is within 250 basis points. This is a good thing, as amongst other advantages, it makes speculative plays on new commercial developments less likely than say was the case a few years back”.

All in all this promotes greater rationality between demand and supply and is helping to maintain both direct and listed property values. It also makes debt structuring and taking on hedge positions that much easier. In the very unlikely event of interest rates going up to above the 13% level, investors who leveraged up on floating rate debt during the low interest rate environment, would have a hard time keeping control of property as their debt service obligations increase. We are not anticipating anything of the sort though.

Weil adds that perhaps where interest rates become interesting is the play on listed forward yields and direct property capitalization rates. The former is more or less pegged to the long bond rate and the equity markets, and the latter more reflective of underlying property fundamentals.

Both the listed and general investor markets currently drive demand for physical property, which is serving to drive up prices, in some cases, to unsustainable levels. However, the low inflation regime is something that the property sector is still assimilating.

In time, the SA commercial property market is likely to more closely mimic those of developed economies - notably in an upward interest rate curve of their own - notwithstanding scope for a risk-appropriate yield sweetener. “This is certainly applicable to parts of Africa and we continue pursuing a number of projects in anticipation of such benefits”.

ENDS

Issued by Rosemary Roberts of JHI Real Estate Ltd
Tel: (011) 441-0339  Fax no.: (011) 441-0172
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9th June 2005