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Investment strategy insights: Australian commercial real estate

We are set for a dynamic 3-4 years as real estate, like all asset classes, navigates through a raft of global economic and investment cross currents and challenges.



We are set for a dynamic 3-4 years as real estate, like all asset classes, navigates through a raft of global economic and investment cross currents and challenges.
 
In our 2015 house view we discuss:
  • Scarcity of product for investment at a time of excess liquidity driven by the global chase for yield
  • Managing the medium term risk of prices rising beyond fundamentals, particularly if interest rates stay lower for longer
  • Navigating a reversal of the two speed economy, and
  • Accommodation demand patterns changing due to demographic shifts, globalisation, and technological disruption.
 
Read the full report here.
 
Our outlook
RETAIL – Focus only on dominant assets or those in population growth areas. These are best placed to hold occupancy rates against the structural headwinds facing the sector.
 
OFFICE – Tapping into the reversal of the two speed economy and focusing portfolios on CBD/Inner City markets (with opportunity to upgrade lifestyle amenity) is the key to delivering returns in this sector based on thematic ‘workplace of the future’ and market cycle forecasts. Optimisation models suggest Sydney/Melbourne bias supplemented by secure high yield (any market). Brisbane should be added once prices fall.
 
INDUSTRIAL – as highlighted above, reduced weighting recommended. Best now to wait until interest rates rise to buy into this sector. The window to buy well located secondary assets has now closed and yields have compressed in the past 6-9 months.
 
NON-CORE MARKETS AND SECONDARY MARKETS – while they look good on paper, there is still tenancy risk as the economy is sluggish and most are liquidity traps except neighbourhood retail, port area industrial, and George/Collins Street CBD office. We urge care with asset pricing. Investors are underestimating the impact on occupancy rates from some of the cyclical and structural themes.
 
Investment strategy
Our quantitative models are confirming our observations that the Australian commercial real estate market is getting closer to the top of the cycle and now is the time to capitalise on the weight of money and position funds and assets for the volatility and structural headwinds in the medium term.
 
The following are the key strategies AMP Capital-managed funds are employing based on the house view:
  • While there is likely to be further gains in prices in 2015, current pricing points suggest selling replaceable assets where no additional value add is available while capital is in abundance, and being very circumspect on new acquisitions at this point in the cycle. Accelerate this if prices rise well beyond fundamentals and returns are being delivered increasingly via leverage.
  • Portfolio construction models are moving back towards the long term optimal portfolio. This means we are now getting signals to increase weighting to retail and start down-weighting cyclical performing assets. If prices rise excessively in 2015, then portfolio construction models are biasing further to retail, particularly the most defensive asset types (ie. regional shopping centres).
  • The reversal of the two speed economy means there will be outperformance in Sydney and Melbourne over the next couple of years and poor performance in resource states. Thus, a short/ medium term bias to Sydney and Melbourne will reward.
  • We are focusing on population-growth areas or cities, dominant assets and core locations to deepen the experiential feel of assets to attract customers and staff. This will help offset flatter or declining accommodation demand over the long term.
 
 
About the Author
Michael Kingcott is the Head of Property Investment Strategy and Research at AMP Capital leading commercial property research and investment strategy.
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