LPTs: soft landing

The listed property trust (LPT) sector has been unloved in recent times, despite delivering a strong performance.

According to Property Investment Research (PIR), the LPT 300 index has returned 16.34 per cent, although this has to be compared to the market darling — the resources sector.

But the LPT sector is still predicted to provide a solid return in the next 12 months, which might be handy if resources continue to tumble.

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APN Funds Management executive director Howard Brenchley says there has been somewhat of a downturn in the sector, although this was coming off a significant high.

“We have had a bit of a downturn as the LPT index slipped below 1,990 points, and has been down to the 1,950s,” he says.

“It has certainly been an underperformer (compared to other indices), but we think returns will be about 10 per cent, with some people tipping 11 to 12 per cent for the next 12 months.”

Brenchley says there has been some compression on trust yields, and both short-term and long-term risk has risen.

PIR head of listed securities Paul Pavlidis says the outlook for the sector is promising, although there are some areas of concern.

“We are forecasting 10.3 to 13.3 per cent rolling forecast growth in the next 12 months,” he says.

“But looking at the retail sector, there is some slowing in spending and consumer confidence is down.

“So it is possible there will be problems in the retail sector.”

However, Pavlidis says other trusts are performing strongly, with some tracking up to 30 times earnings.

The top performing trust in the LPT sector is Macquarie Leisure, which has a one-year return of 79.68 per cent and a five-year return of 49.97 per cent.

Other top-performing trusts are Babcock & Brown Japan Trust (61.74 per cent one-year return) and Centro Properties (45.59 per cent).

Perennial Real Estate managing director Stephen Hayes also believes the Australian LPT market has the potential to perform strongly in the future.

“Australia has a number of strong-performing trusts and, in risk-adjusted returns, the returns have been outstanding,” he says.

“And the numbers for the future point to greater returns from the sector.”

Pavlidis says trusts with strong funds management operations, as opposed to those that are purely developers, are becoming the star performers.

“Fund management is of increasing importance in the sector, as this will drive future earnings,” he says.

“Markets are paying for fund management businesses such as Macquarie Goodman and Centro.”

PIR also believes other LPTs, such as Stockland, will be re-valued as their funds management business grows.

And another factor driving the price of some LPTs is potential future earnings growth.

“LPT investors are pricing LPTs, such as Macquarie Goodman, in anticipation of further acquisitions,” Pavlidis says.

“But how do we price these further acquisitions?”

PIR argues trying to factor in a possible acquisition in the price of a LPT is impossible, as there are so many uncertainties.

Projecting future pricing of LPTs is based on the currently held assets, with income from the properties and growth forecasts for the sectors the trust operates in.

New property acquisitions are only factored into a LPT price when they are acquired and there is good solid data about the deal.

SG Hiscock & Company managing director Stephen Hiscock says another concern is the market pricing in development profits as income.

“Some trusts are being recognised as good performers because development profit is being treated as income,” he says.

“But development profits are always a one-off and they are not set in stone.”

Hiscock argues investors are forgetting the risk of development and pricing the LPT as having a passive quality.

The LPT sector is also undergoing a change in nature as more trusts head overseas for property, and are rearranging their portfolios.

Brenchley says while in the past the move for Australian property was from private ownership into public institutions, they are swinging back.

“There are a lot of REIT [Real Estate Investment Trusts] providers in the US going private, which is part of the shift from public ownership to private,” he says.

“It is happening in the LPT sector here as part of the property evolution that is going on.”

A driver of these moves is a push to satisfy the demand for property from superannuation funds.

An example is the GPT Trust putting $2 billion of property into a wholesale product that Brenchley says is basically moving listed trusts into the unlisted area.

However, superannuation funds are still a significant driver for the demand of listed property trusts.

“There is still an appetite for property by the super funds, but some sectors are not benefiting from this,” he says.

However, Hiscock believes with strong demand, trust managers should look to realising some profits by selling properties at the peak of the market.

“Trusts should sell some properties while the markets are high, but they are worried about maintaining their fees,” he says.

“They should be selling to reduce gearing.”

Alternatively, trust managers are finding the supply of property hard, and that is resulting in a certain amount of trading in assets between managers.

Pavlidis says while the sector is reasonably healthy with capital growth, the lack of property will limit growth of some trusts.

“The only limiting factor for some trusts during recent years is the limited supply of property, and that has meant that some managers are moving into overseas markets,” he says

“This means we will get more and more managers chasing the same stock with limited growth potential.”

However, he argues some managers do not want to make any further acquisitions, as it will dilute earnings, which would affect the performance of the trust.

PIR believes there are some trusts that have potential upside in the next 12 months and others that look good for the longer-term outlook.

Mirvac is one the researcher favours because of its good management structure. Additionally, it is poised to benefit from improvements in the residential sector, Pavlidis says.

“Another we favour is Stockland, which again has good management and is not fully priced,” he says.

“Centro will be a long-term performer, as it has strong distribution channels and is building a funds management business well.”

PIR believes investors in LPTs cannot ignore Westfield due to its size and global position, which means the manager will have access to good properties around the globe.

“Westfield also has a huge portfolio of properties that will be ripe for redevelopment and refurbishment in the future, and this will boost earnings,” Pavlidis says.

“We also like ING Industrial Fund Trust, which has a confident expansion plan for Europe and is a global player.”

PIR favours Rubicon Europe trust in the short-term if the investor is looking for yields of about 11 per cent. It also favours Macquarie DDR Trust and Galileo Trust in the short-term, as both have returns in excess of 10 per cent.

While the future looks good for many trusts, there are factors that could impact on small to medium-sized trusts.

Interest rate rises are a cloud on the horizon, but due to most managers locking in rates, it will not have an impact for a couple of years.

Pavlidis says, at present, trust managers have locked in rates, but any interest rate rise in the future will eventually have an impact.

“They can fix interest rates at June 2006, but when they come to renew at a higher rate it will have an impact on the trust,” he says.

Brenchley is positive for the LPT sector in the future, but predicts returns will come down to more realistic levels.

“LPT returns have come back from a long-term high. The last few years have been exceptional, but don’t expect it to continue forever,” he says.

To paraphrase a famous Australian Prime Minister, Brenchley says the downturn of the LPT sector was “the softening we had to have”.

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