The listed property sector has rebounded strongly and is now at the levels prior to the sell-off on the back of the interest rate hike in October. Despite higher interest rates the listed property sector is up 38% on last year, confounding analysts who expected softer capital returns in the present environment.
In the past two weeks results from the property sector have shown that it is still growing strongly, with some companies increasing their distribution to shareholders by 20%.
Brian Azizollahoff, chief executive of Redefine Income Fund, says the market always reacts negatively to an increase in interest rates. This is generally a result of retail investors either panicking or moving to cash where they perceive they will receive a better return that is risk free. However, this creates a buying opportunity for longer-term investors who understand that the growth projected by the listed sector is still extremely positive.
Unlike cash, which is set unless there is an interest rate hike, income from listed property grows each year, providing a better hedge against inflation. For example, investors in Redefine have seen their income increase by 20% this year. Azizollahoff says they are expecting a further 14% growth in distributions next year.
So, although based on the current share price of R8,18 the yield is 6,05%, which is lower than the money market rate. Next year it will increase to 7,41%.
Azizollahoff says that some investors were concerned about the property loan stocks, which are heavily geared. However, their loans relative to asset values have been decreasing as the property prices increase and most of them have gearing of less than 60%.
He says many property loan stocks had already fixed the bulk of their borrowing for long periods and therefore this has not been a major risk in this sector. When interest rates start moving down it will add momentum to the share price of the listed property stocks and investors will receive higher income with a possibility of increased capital.
Rentals have soared as supply fails to keep up with demand. Octodec Investments reported an increase in distributions of more than 19%, which managing director Jeffery Wapnick attributed to rental income increases of 25,1%.
High building costs have meant that new developments are charging far higher rentals which, in turn, are beneficial for owners of existing buildings.
“This is a landlord’s market. We haven’t seen this type of market for years,” says Azizollahoff. There is still enormous upside for rentals in prime space where there is big demand, but not all properties will perform as well.
Chris Freund of Investec Asset Management says the market is still positive on commercial and industrial property. But retail property is starting to slow, although it is still in the early stages of a cyclical slowdown.
Freund says from an asset allocation point of view the high capital returns from property are now over as the yields are lower than bonds. Yet distribution growth of 10% to 12% is still expected. Freund says that, given the expectations that inflation will peak around the second quarter next year, with a possible rate cut at the end of 2008, in the next 12 to 18 months property returns are expected to beat bonds and cash.
He says another major driver behind the property share prices has been a structural change in the actual weightings large asset managers and pension funds hold in property.
“Property used to be a jaundiced asset class with high and volatile interest rates,” says Freund. As a result, institutions did not hold property. Investors are now increasing their holdings and Investec is still receiving mandates from pension funds for property-only investments. This will continue to support listed property share prices.
Cheap access to listed property
If there is a further rate hike in December it might be a good idea to use the short-term sell-off in listed property to pick up some for your portfolio.
An inexpensive entry point is PropTrax, an exchange traded fund listed on the JSE, which tracks the listed property sector. Because it is an index tracker you do not pay asset management fees, yet you receive exposure to the top 20 listed property companies on the JSE.
The only negative is that, because it is weighted by market capitalisation and the property sector is fairly concentrated, more than 20% of the index is in one company, Growthpoint Properties. Other major shareholdings include Fountainhead Property Trust, SA Corporate Real Estate Fund and Redefine Income Fund. — Maya Fisher-French