Property Prospects - Boonzaier

Posted On Monday, 01 April 2002 03:01 Published by eProp Commercial Property News
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Property Prospects. Compuspace 29 Jan 2002

Performance has been great 

The performance of the listed property sector has been exceptional over the last couple of years, with PUTs recording returns of 43,9%, 42, 5% and 23,5% over 1-, 3-, and 5-year periods respectively. The listed property sector has also outperformed strongly relative to equities and bonds, as indicated in the chart below.


Property-Housing-ResidentialProperty is also considered a far less risky investment relative to equities. When adjusting for risk, the performance seems even stronger. As indicated in the chart below, the returns from the PUT and PLS sectors are less volatile than equities, but slightly more volatile than bonds. 

Yearly Performance 

Significant activity in a dull market 

The real estate sector has probably been the most active sector on the JSE over the last couple of years in terms of M&A activity. More than seven new listings, four mergers and much restructuring and acquisition activity has resulted in a major increase in the market capitalisation of the sector. The sector now equates to around R32-billion, from a mere R6-million three years ago.

The PUT and PLS sectors on their own have almost tripled over the same period, albeit off a very low base. The combined market capitalisation of these two sectors has grown from R4,7-billion three years ago to its current R12,7-billion.

Although we realize that the real estate sector is still a very small portion of the total market capitalisation of the JSE (2,3%), we expect the sector to grow significantly over the next couple of years. With the PUT sector now in a position to use gearing for new acquisitions, we expect this process to accelerate as these vehicles can now also offer a cash portion to potential sellers.

The increase in market capitalisation in the sector has also benefited liquidity in general. This increase, coupled with the creation of bigger individual funds, ie: Grayprop (R2,2-billion), Sycom (R1,2-billion), and Martprop (1,1-billion) has improved overall liquidity levels.

We also believe further consolidation in the sector could lead to fewer funds with bigger market capitalisations, which should further increase the attraction of listed property stocks. We place significant emphasis on management’s capability of adding acceptable property to their portfolios, which will add to the sustainability of the underlying rental streams.

Too much building

In a perfect, mature market, property earnings growth should equal nominal GDP growth. Occupancy levels, in turn, are a function of supply and demand for space. The demand for space is mostly a function of growth in general economic activity ie: GDP. The supply of space is also a function of GDP, but other variables like interest rates and decentralisation play a major part in the overall supply of new space. We believe there is currently a substantial over supply of space in the market, in particular the office and retail sectors.

For most of the second half of the 1190s, investors were happy to invest in property companies owning decentralised offices. Currently, decentralised office buildings in Johannesburg are under major pressure due to oversupply. The increase in vacancies has a double effect on earnings. The most obvious effect is the loss of rental from the tenant moving elsewhere. The second inevitable consequence is pressure on rental levels of existing tenants as they have now an abundance of space from which to choose.

There are currently various ways of deferring the effect of poor fundamentals, ie: buying high-yielding properties (usually lower quality) to boost earnings in the intermediate term. Also, the use of gearing can add to the initial return on the acquisition. However, fundamentals often reassert themselves, and we believe there could be some disappointment in earnings over the next 12 to 24 months.

The future

Property yields should currently be trading at levels of around 14,4% against its current levels of 12,9%. We believe this strength can be ascribed to the lower risk associated with property investment in volatile market conditions.

On a 12-month basis, we expect property yields to trade at around 12,3% and believe the current forecast yield of 14,4% is only a temporary spike in yields. Despite increased risk through weak fundamentals, in current market conditions property could still outperform equities due to its defensive nature. We expect a total return of 22,2% over the next 12 months from the property sector.

Based on our analysis, we believe long-term investors should continue to focus on quality counters. Our concerns remain:

· Deteriorating fundamentals

· Increased risk due to higher levels of gearing

· Limited scope for major interest rate reduction

The major rerating of the sector over recent years has benefited all property stocks, including lower quality portfolios. In an environment where earnings could be scarce, we believe the differentiation between higher and lower-quality portfolios should become more pronounced. We expect many lower-quality portfolios to list in the next couple of years, which could undermine sentiment towards the sector in the longer term. Attention needs to be given to management track record, fees charged for listing and management contracts and especially the overall quality of the portfolio.

Last modified on Tuesday, 29 April 2014 11:32

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