Unlike housing, which started the year in a surge of sales and prices, commercial property has made a subdued opening to 2021.
Preliminary estimates from Real Capital Analytics suggest that the level of transactions in the March quarter – including office, retail, industrial and hotels priced at above $10 million – will be lower than in the comparable, pre-lockdown quarter of 2020.
It will not stay subdued. Already some large transactions are in the pipeline, including Blackstone’s Milestone Logistics portfolio in one of the hottest sectors of the market, and GIC’s Sydney CBD retail portfolio, in one of the weakest.
Two M&A transactions are also under way, one for healthcare property and one for long-leased horticulture. And records have been set for pubs.
Most importantly, the market is emerging from the fog of 2020 with more clarity about earnings, plenty of equity to invest, and an increased appetite from the debt providers.
If anything, the problem is a shortage of opportunities. With low finance rates and an improving economy, few owners are under pressure to exit.
Mark Coster, the head of capital markets in Australia for global real estate heavyweight CBRE, says the market might have started a bit slower than last year but the transactions will build, with pricing to remain strong and turnover certain to top that of 2020.
But don’t get carried away. Buyers and bankers will be selective, both about the specific sector and the quality of the covenant.
The hot focus is on alternative sectors such as logistics, build-to-rent, healthcare and data centres – known to some as “beds, sheds, meds and bytes”.
“People are prepared to bid harder than last year but there is not the mad frenzy of the residential market,” says Burgess Rawson managing director Dean Venturato. Next week his firm will auction another 40 properties suitable for private investors.
The quarter did bring a caution. Bond rates, traditionally a key factor in commercial real estate pricing, jumped in the US from just under 1 per cent at the end of December to near 1.7 per cent today
The shift, along with the emergence of COVID-19 vaccines, drove a rotation among the listed real estate investment trusts, which saw two of the long-term top performers, Goodman Group and Charter Hall Group, lose ground. (Both have bounced after mid-March lows when they started screening as buys.)
By comparison, the leading mall owner, Scentre Group, and the diversified GPT Group – both emerging from a tough 2020 – have enjoyed a positive start to 2021.
Andrew Ballantyne, the head of research in Australia for global real estate group JLL, argues that many institutional property investors look beyond the current near-zero bond rates, to an average bond rate of around 2.5 to 3 per cent for the period of their investment.
A simple calculation demonstrates the point. If investors work with that 2.5 to 3 per cent risk-free rate, and add on a 3 percentage point premium for core property, they are looking at a total return – income and capital – of around 5.5 to 6 per cent. Which is close to the current mark.
Charter Hall Group chief executive David Harrison has long watched the bond rate and confidently ridden the lower-for-longer theme.
He acknowledges the current trend to higher bond rates, and warns that trends can overshoot fundamentals, but thinks the bonds will flatten.
“I cannot see the fundamentals for a long-term rise in bonds,” he says. “I cannot see a long-term rise in inflation.
“I talk to the chief executives who occupy Charter Hall’s $50 billion portfolio. No one I talk to predicts a wage breakout. And technology will continue to be a wage deflator.”
Nor has the rise in the bond rate deterred the big institutional buyers.
“The super funds and the wealth funds; they are not panicking. They are still out there and with appetite,” says Harrison. “There is a lot of capital to be deployed.”
Which means he is confident of growth in values. “We reported $1.2 billion of net valuation uplift in the first half. I think we will see around $2.5 billion for the full year.”
Andrew Parsons, executive director of the specialist global real estate securities manager Resolution Capital, warns of “a tricky time” as financial markets come to grips with an economic environment distorted by irregular confluence of unusual fiscal and monetary policies.
“Much depends on the success of these policies leading to sustainable real economic growth to drive leasing demand. The supply-and-demand dynamic for real estate remains key.”
In the traditional sectors of office and retail, those supply-and-demand dynamics are still responding to the shaking of 2020.
In the office towers, Charter Hall’s Harrison is “starting to see rises in activity” but he acknowledges that “it is going to be a tenants’ market for the next 12 months”.
Nevertheless, the big sales that have taken place, such as the stake in Sydney’s 1 Bligh Street, show no weakness in pricing.
The same themes show in the burst of pub sales since the beginning of the year.
“We have sold one regional pub in NSW [not counting coastal properties] every week since the start of the year,” says the managing director of HTL Property, Andrew Jolliffe.
Yields have been at or below previous records and last week’s sale, of the Robin Hood in Orange at $19 million, set a new high mark for NSW pubs beyond Sydney and the coast.
Jolliffe says finance is key with all major banks actively servicing the sector. “We have clients enjoying senior debt at rates of less than 2 per cent, and that is on business risk,” he says.
Robert Harley holds interests in Goodman Group and Scentre Group.
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