Head of Property Investment Strategy and Research, AMP Capital
All four major banks increased interest rates during October, citing their reason for the rate hike due to increased pressure from the Australian Prudential Regulation Authority (APRA) for financial institutions to adhere to the 10% cap on property investor lending growth. Given that we are set to be operating in a low-growth environment for the foreseeable future, investors should ensure that any downside risk is eliminated or mitigated.
The Australian commercial real estate market is benefiting greatly from the current low interest rate environment, with strong investment demand from both Australian and international investors. Leasing and consumer spending are improving in Sydney and Melbourne – where the largest concentration of property resides – but momentum is slower in the mining states as the commodities boom recedes.
An overview of our outlook for the sector is below:
- Real estate is expected to provide better yield than bonds and equities
A low growth environment encourages a chase for yield, with lukewarm economic momentum and capital market volatility underpinning this trend. Real estate remains good value compared to bonds and equities.
- Further increases in values in the short term, but caution later in the decade
We expect that cap rates will continue to decrease in the short term while interest rates stay low, but they are likely to start to increase later in the decade once interest rates start to rise. The cap rate is the rate of return on a real estate asset based on the income the property is expected to generate.
- Improving demand for office space
Evolving technology, shifting demographics, increasingly flexible workforces, ongoing business margin pressures, competition from Asian financial hubs and globalisation are all likely to affect the demand for office space. These changes present opportunities for investors.
- Future of retail
The latest real-world data is starting to verify our key views of the future of retail research that consumers will shop where most convenient, or somewhere offering a retail and non-retail ‘experience’ such as a major regional shopping centre, CBD, market, or high street.
- Shopping centres more resilient than office towers in resource states
While office vacancy rates have risen and rents fallen, large shopping centres have provided the strongest risk adjusted returns in the resources states (Western Australia and Queensland) in the past and this is set to continue despite generally weaker momentum in the mining states.
- Industrial is leading the property cycle this time
Industrial has benefited greatly from the chase for yield, prompting capitalisation rates to compress. But it’s now close to the top of the cycle and likely to be most impacted when the music stops because of its historically lacklustre rental growth to back up pricing. Investors should remain patient - there will be an opportunity to get exposure to the sector later in the decade when interest rates start rise. Industrial is likely to benefit from some of the negative structural headwinds facing the retail and office sectors.
Important note: While every care has been taken in the preparation of this article, AMP Capital Investors Limited (ABN 59 001 777 591, AFSL 232497) and AMP Capital Funds Management Limited (ABN 15 159 557 721, AFSL 426455) makes no representations or warranties as to the accuracy or completeness of any statement in it including, without limitation, any forecasts. Past performance is not a reliable indicator of future performance. This article has been prepared for the purpose of providing general information, without taking account of any particular investor’s objectives, financial situation or needs. An investor should, before making any investment decisions, consider the appropriateness of the information in this article, and seek professional advice, having regard to the investor’s objectives, financial situation and needs. This article is solely for the use of the party to whom it is provided.