Like the little train that could, property as an asset class continues to power along despite predictions of its demise over the last couple of years. Reasons often cited for such predictions include it becoming an overheated sector (in the sharemarkets’ dark years of 2000-02), rising interest rates and a cooling residential housing sector. Despite predictions by Intech and other industry commentators that shares will give a slightly higher return on average over the very long-term (eg, 9 per cent per annum pre-tax from shares, compared with 8 per cent per annum from listed property securities), no-one can deny that listed property has had a stellar run over the past decade.
Senior consultant at Intech Investment Consultants Andrew Korbel says some investors, especially those with residential property investments, may be surprised to learn that super funds’ returns from property have remained strong in recent quarters. After all, it is well known that the residential property market has slowed since early 2004. However, the majority of super funds don’t gain their property exposure through residential properties (ie, houses and apartments), but through investing in institutional property in the retail (eg, shopping centres), commercial (eg, office buildings) and industrial (eg, factories) sectors. “Apart from the logistical drawbacks of residential property — even a medium sized super fund would need to own many hundreds of individual residential properties to attain its targeted exposure — institutional property also typically earns a higher yield than residential property. This makes it a better diversifier for the many super funds who hold most of their assets in more volatile assets such as shares”, Korbel said.
These days, most institutional property has been securitised in listed vehicles, (called Listed Property Trusts (LPTs)). The performance of LPTs has been strong for a number of years. This has been helped by a flight to quality following the global sharemarket collapse after the dot.com boom and a falling interest rate environment. A recovery from an oversupply in office property from the first half of the 1990s, a progressive increase in the use of leverage within LPTs and, more recently, heavy consolidation in the sector has also fuelled LPT returns. In fact, property has been more consistent and contributed more than its fair share to super fund returns for most of the past decade.
Going forward, however, the outlook for LPTs is more uncertain. As mentioned previously, the Australian LPT sector has enjoyed a dream run since the mid 1990s, with double-digit returns in all but one of the past nine years. But considerable consolidation and change has seen the number of securities nearly halved in the past five years (from 51 in 1999 to 24 in 2004), making the sector more concentrated. In addition, there has been increased leverage and greater exposure to development projects to supplement rental income and overseas assets. Korbel says all of these factors have resulted in the expectation that returns from Australian LPTs will be more volatile in the next decade than in the previous one, and that it will now be more difficult for active management to add value than in the past.
So with recent consolidation in the listed property sector resulting in it becoming less diversified and highly concentrated, how can investors deal with the increasing risk that LPTs now present? One consideration frequently being talked about is allocating some property exposure to the global property sector. Korbel says Australia has actually led the world in developing a listed property trust market.
“Around 50 per cent of Australian institutional property is securitised in listed vehicles, compared to 12 per cent in the US and 11 per cent globally.
However, changing laws and investment market dynamics are fuelling considerable growth in the number of LPTs being listed on various overseas markets, which has in turn spawned a number of global property securities investment managers. Because it is in many ways still an emerging asset class, we expect that there will be good opportunities for skilled investment managers to generate greater outperformance than in the domestic sector. Over time, we anticipate that investors will make allocations to a mix of domestic and international LPTs, as is presently the case with both shares and bonds.”
