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Home September 2024 quarter ASX A-REIT market update
November 11, 2024

September 2024 quarter ASX A-REIT market update

Stuart Cartledge, Managing Director, Phoenix Portfolios

 

Market Commentary

The S&P/ASX 300 A-REIT Accumulation Index rocketed higher during the September quarter, gaining 14.3%. Property stocks outperformed broader equities in the period, with the S&P/ASX 300 Accumulation Index adding 7.8%. During the quarter most companies in the property sector released their full year financial results to 30 June 2024. The solid results and upbeat outlook statements aided performance. The other (related) factor was the reduction in interest rates over the period. At the end of June, the 10 Year Australian Government Bond yield was 4.4%, however it ended September below 4.0%.

Traditional property fund managers were some of the strongest performers in the September quarter. The earnings of these companies are particularly sensitive to movements in interest rates. At current levels, property funds management product is once again in demand, with yield and expected internal rates of return (IRRs) which are appealing relative to fixed income products. Charter Hall Group (CHC) led the way, gaining 42.8%, as its earnings guidance for the next financial year surpassed the expectations of market participants. Centuria Capital Group (CNI) was also a meaningful outperformer, adding 26.7%, as it was carried by the same positive sentiment that drove CHC higher. Alternatively, Goodman Group (GMG) returned a respectable 6.4%, but underperformed the index as lofty expectations of future earnings growth were not met by the guidance provided at its annual financial result.

Shopping centre owners were also outperformers, as they produced solid results and presented earnings guidance that demonstrated resilience. Operating metrics, such as specialty sales and leasing spreads did diminish across the year, but some believe that a lower interest rate environment over the medium term and tax cuts in the short term are likely to lead to strong consumer spending and income growth for retail property owners. Vicinity Centres (VCX) was the major outperformer, moving 22.6% higher in the quarter. Scentre Group (SCG) also rose sharply, up 19.7%. The owners of smaller neighbourhood shopping centres saw more muted, but still strong performance, with Charter Hall Retail REIT (CQR) returning 14.9% and Region Group (RGN) lifting 9.0%.

Large capitalisation diversified property owners were also beneficiaries of the renewed enthusiasm from property securities. Stockland (SGP) rose 25.7%, aided by solid operational progress and the prospect of an improving market for the sale of new residential homes and land. GPT Group (GPT) also performed well, up 24.5%, with new CEO Russell Prout outlining his vision for a more capital efficient and higher return on equity (ROE) future for the business. Despite dropping on an underwhelming financial result, Mirvac Group (MGR) more than recouped its losses, finishing the quarter 15.0% higher.

Larger land lease retirement property owners were the major underperformers during the quarter. Lifestyle Communities (LIC) lost 31.8% as it was the subject of an ABC investigation, which suggested it was taking financial advantage of its customers. It has also been the subject of a short report, questioning its business model. Beyond this, it solely operates in Victoria, which is currently the weakest state in terms of house price growth and new home sales. This combination of factors forced the company to withdraw its sales guidance for the coming years. Ingenia Communities Group (INA) produced a solid financial result, albeit the quality of its earnings has been questioned. It underperformed the index but still lifted 6.5% in the period.

Market outlook

The listed property sector is in good shape and provides investors with the opportunity to gain exposure to high quality commercial real estate at a discount to independently assessed values. While share market volatility may be uncomfortable at times, the offset is liquidity, enabling investors to rebalance portfolios without the risk of being trapped in illiquid vehicles.

Rising interest rates have been a headwind for many asset classes, with property, both listed and unlisted, a particularly interest rate sensitive sector. More recently, interest rates have reduced and strong returns have been seen in property securities. The August reporting season saw stocks providing solid updates, with meaningfully more optimistic outlooks, based on the assumption that interest rates may have peaked and begun to come down. Long term valuations are driven by “normalised” interest costs, meaning the impact of short term hedges maturing is mostly immaterial. Should the forecast decline in interest rates eventuate, recent momentum may continue.

The industrial sub-sector continues to be the most sought after, given the tailwinds of e-commerce growth, the potential onshoring of key manufacturing categories and the decision by many corporates to build some redundancy into supply chains to cope with current disruptions. All of these factors are contributing to ongoing demand for industrial space, which is evident by rapidly accelerating market rents and vacancy rates at historic lows of around 2% in many markets. Strong rental growth has offset capitalisation rate expansion in recent periods resulting in flat valuations and capitalisation rate spreads to government bonds more in line with long-term norms.

We remain cognisant of the structural changes occurring in the retail sector with the growing penetration of online sales and the greater importance of experiential offering inside malls. Recent performance of shopping centre owners has however been strong, with consumers showing resilience and share prices moving sharply higher. It is interesting to note the juxtaposition of very high retail sales figures despite very low levels of consumer confidence, no doubt impacted by rising costs of living. Importantly, we are also now seeing positive re-leasing spreads in shopping centres, indicating strengthening demand from retail tenants.

The jury is still out on exactly how tenants will use office space moving forward, but demand for good quality well located space remains. Leasing activity is beginning to pick up, and there has also been some transactional activity, albeit at prices typically at discounts to book values. Incentives on new leases remain elevated.

We expect to see further downside to asset values in office markets, but elsewhere expect market rent growth to largely offset cap rate expansion, particularly in industrial assets. Listed pricing provides a buffer to such movements.

The content above is taken from the Cromwell Phoenix Property Securities Fund quarterly report. Sign up here to be the first to access the latest report and to gain a deeper insight into the Fund’s performance.

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