Thursday 1st August 2019
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The value of New Zealand’s listed property stocks has risen 60 percent on average since they bottomed in 2012 and they are now trading about 18 percent above their net tangible asset backing.
That suggests the market expects the value of their properties to rise further, says Jarden analyst Owen Batchelor.
In a note on the sector, he says that capitalisation rates for the sector have compressed by about 230 basis points since 2012 – as cap rates fall, property prices rise.
“Despite cap rates at record lows, spreads to bond yields remain well above pre-GFC levels. As such, direct property still offers relative value and, with a backdrop of declining bond yields, cap rates may firm further near term.”
He estimates cap rates may fall a further 70 basis points on average.
The listed property sector “continues to be driven by movements in bond yields,” he says.
New Zealand generic 10-year government bond yields are currently trading at 1.43 percent, down from 2.8 percent a year ago.
Peter Cavanaugh, the senior client advisor at Bancorp Treasury Services, says market pricing suggests long bonds are going to be flat for the next three years.
That’s against the backdrop of expectations that both the Federal Reserve in the US and New Zealand’s Reserve Bank are going to continue to cut short-term interest rates.
The Fed has just cut its Fed Funds rate with the market predicting another three cuts by the end of 2020. The RBNZ is expected to cut its official cash rate again next week and then again in September or November.
Batchelor says the spread between NZ government 10-year bond yields and the yield from listed property stocks has been stable at about 400 basis points since mid-2013. In 2007 - before the GFC - that spread went below 200 points.
“In our view, current sector pricing implies the belief in the sustainability of zero long-run real interest rates,” he says.
Within the sector, Goodman Property Trust units are trading at the highest premium of about 29 percent, with Property For Industry shares at a 28 percent premium.
Precinct Property shares are about the middle of the pack at about 19 percent, with Argosy Property at 14 percent, Kiwi Property Group at 13 percent, both Stride Property and Vital Healthcare Property Trust at 10 percent and Investore Property at 9 percent.
Asset Plus, formerly NPT, is the only property stock trading below NTA, an 8 percent discount.
Batchelor says Vital is the outlier in the sector with its cap rate firming by more than 100 basis points than industrial exposures, which have fallen 363 points in the past seven years.
He says that partly reflects a structural re-rating of the healthcare property sector in recent years.
Generally, the office sector cap rates have fallen less, ranging from 292 points for CBD grade A buildings through to suburban grade A at 254 points over the past seven years.
Retail property values have risen at much lesser rates – cap rates for large-format retail have fallen 166 basis points over the past seven years while prime CBD retail rates have dropped just 114 points.
Batchelor says only retail cap rates have started to soften again so far with the damage being confined to regional malls. Cap rates for large-format and CBD retail property are still firming.
“Should this softening continue, we see downside risk to retail valuations, with Kiwi and Stride the most exposed in the sector,” he says.
Kiwi Property owns the Sylvia Park and LynnMall centres in Auckland and The Base in Hamilton, all of which it now classes as mixed-use complexes, designed to include other types of non-retail property, and whose value collectively rose 1.3 percent in the year ended March.
However, the cap rate on the rest of its retail portfolio rose 23 basis points to a significantly higher 7.53 percent in the year.
Stride’s major retail tenants include Briscoes, Bunnings, Countdown and Farmers.
Batchelor says he prefers Kiwi shares over Stride’s because of the former’s mixed-use strategy.
In the industrial sector, he prefers Goodman and his pick in the office sector is Precinct because of its rental growth, portfolio quality and comfortable balance sheet.
While Vital offers relative value, its gearing is elevated, and while Asset Plus also offers relative and absolute value, “valuation upside may take time to materialise.”
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