I. Sector Landscape and Outlook

Steady population growth aided by migration flows boosted the housing market in Australia contributing about 7.9% of Gross Value Added in March 2019 quarter according to data by the Australian Bureau of Statistics. Increase in consumer spending following easing of restrictions lifted the business and consumer confidence and the housing market proved resilient. Regional housing market showed uptick in prices more than capital cities since the onset of the pandemic. The record low cash rate and various government stimulus supported the recovery of the sector.

Revival Indicators:

Building approvals for private sector houses rose 20-year high to touch 10,692 units in October 2020 backed by strong demand for single-family detached properties. The total dwellings unit approval increased by 3.8% over preceding month according to the Australian Bureau of Statistics.

Almost all capital cities except Melbourne witnessed uptick in property prices in September 2020 over the preceding month following easing of social distancing restrictions. Residential Property Index showed recovery in September 2020 aided by Sydney and Brisbane property markets. New property listings have also improved in most cities since August 2020. Reserve Bank of Australia cut down the cash rate to record low of 0.1% and aggressive bond buying program pushed down the mortgage rates resulting in revival of the housing property sector.

Figure 1. Residential Property Prices Showed Recovery in September 2020 Quarter:

Source: Data from Australian Bureau of Statistics, Analysis by Kalkine Group

International boarder closures have reduced overseas migration which negatively affected rentals and increased the vacancy rates especially in inner Sydney and Melbourne to the highest level seen in many years. As per the data by ACT Government, median weekly rent for a three-bedroom house in Sydney reported a decline of 5.7% in September 2020 quarter over last year. While Melbourne witnessed a decline of 6.7% in the same period. As Perth relatively had modest new supplies, vacancy rates declined and stood the lowest.

Improvement in job creation, rising consumer confidence, and improved business confidence contributed to sequential decline in housing loan deferral. There were about $49.5 billion of loans remained on pause through deferral schemes implemented at the beginning of the pandemic. This represent just 2.8% as of November 2020 as compared against 9.0% in July 2020. According to APRA, deferral exists outweigh new entries for the fifth straight month in a row. Victoria represents the highest proportion of deferral loans with 3.2% compared to rest of the country at 1.7%.

Figure 2. Housing Deferral Loans has been Declining from 10% during COVID-19:

Source: Data from APRA, Analysis by Kalkine Group

Commercial Property Market Update:

Commercial property market took the hardest hit with high vacancy rates impacted by work-from-home or remote working protocols. According to Property Council of Australia, vacancy rates for Sydney surged from 3.9% in January 2020 to 5.6% in July 2020. Similarly, Melbourne showed a steep increase from 3.2% in January 2020 to 5.8% in July 2020. Perth had the highest vacancy rate at 18.4% for CBD markets. Lease transactions continues but in lower volumes and subleasing provides attractive opportunities for tenants. However, office vacancy rates in sub-markets declined like East Melbourne, locations in Sydney such as Parramatta, Chatswood, Macquarie and Crows Nest markets, to name a few.

Lockdown restrictions impacted office and retail property sales. Office property sales volumes are currently 70% lower than 2019. Industrial Property sales seen rising above 2019-level and currently account for one-third of commercial property sales for nine months period ending Sep’20. Investors are attracted to the sector driven by strong demand for logistics space resulting from the pandemic-led e-commerce boom. By state, New South Wales, and Victoria accounted for largest share of commercial property trading (share at 29% each). Queensland is the next largest with 18% share (in-line with historical average).

Figure 3. Rising Industrial Property Sales:

Source: Data from CBA, Analysis by Kalkine Group

Know about REIT:

Real Estate Investment Trust (REIT) is an investment product that invest in real estate property assets. Through REIT, investors participate in various class of property assets which includes commercial, industrial, and retail (or residential) real estate assets without requiring direct purchase of such properties. REITs are mandated to distribute about 90% of their net income to investors thereby providing regular stream of cash flows to investors.

A-REIT is a unitised portfolio of property assets that are publicly listed on Australian Stock Exchange.

Classification of REITs:

Equity REITs generate income through leasing rentals from their properties. Equity REITs provide diversification benefits to investors with portfolio assets in hotels, shopping centres, apartments, and office buildings. Mortgage REITs contain mortgage-backed securities and generated income through interest paid on the loan.

Figure 4. Classification of Equity REITs Property Assets:

 

Source: Analysis by Kalkine Group

Commercial REITs housed large number of players. The portfolio assets are investments in office and industrial properties. These types of REITs boast high dividend yield and provide the most stable stream of cash flows to investors. Diversified REITs have high market cap with mix of income stream to investors. These types of REITs provide adequate diversification benefits to investors. Specialized REITs owns non-traditional real estate assets like mobile towers, data centres, etc. Residential REITs are focused on multi-family dwellings, home communities, etc.

Figure 5. Market Capitalization of REITs:

Note: Market Capitalization as of January 6, 2021

Source: Data from Refinitiv (Thomson Reuters), Analysis by Kalkine Group

Performance of REITs:

The ASX 200 REIT Index is trading at discount vis-à-vis ASX 200 Index with P/E multiple of 19.04x as compared to ASX 200 Index at 22.32x as of January 7, 2021 providing accumulation opportunity for investors. Given the steady stream of cash flow generation and diversification characteristics, A-REIT delivered superior dividends to investors despite the pandemic impact and global market meltdown.  A-REIT stocks delivered average dividend yield of 3.70%, far higher than 10-year bond yield of Australian Government Bonds at 1.08% as of January 7, 2021.

The ASX 200 REIT Index outperformed with a whooping returns of +66.66% in last 10 years vis-à-vis ASX 200 Index returns of +39.87%. Rapid urbanization, strong consumer spending, and increased private investments spurred the sector growth.

Figure 6: ASX 200 REIT Index outperformed ASX 200 Index by 26.79% over the last decade

Source: Refinitiv (Thomson Reuters) as on the close of 7 January 2021

Key Risks and Challenges:

REITs are largely dependent on rental or lease income from underlying properties. The onset of the pandemic adversely affected commercial property market with rentals impacted by work-from-home and remote working protocols. Sydney and Melbourne reported highest vacancy rates. These may impact collections and cash flow generation of REIT companies. Reduction in migration population (mostly international students) may impact residential rentals or residential REITs. Home buying saw increased traction driven by JobsKeeper and The Homebuilder program. It may be adversely affected if the government decides to roll-back the stimulus programs.

Outlook:

Rising offshore investments to drive the sector growth. Property market in Australia exhibiting ‘safe heaven’ characteristics. Offshore buyers have shown increasing interest in commercial property market of Australia. Singaporean investors have shown increased buying activity with about one-third of offshore buying volumes during nine months ended Sep’20. This is followed by German and the US.

The sector received approval for $19 billion construction and development projects in the metropolitan and regional Australia. Sizeable portion of these projects are from private sector, the largest of which is Mamre Precinct industrial area in Western Sydney with end value of $2.6 billion. Other core property projects include office towers in Melbourne ($2.5 billion), mixed-use projects such as Beulah Southbank tower in Melbourne ($2.0 billion) and $1.5 billion in site-specific approvals to facilitate smaller apartment developments in Sydney and Melbourne. These projects will bring a sharp revival to the property market in Australia.

II. Investment theme and stocks under discussion (GDI, CMW, DXS, COF)

After understanding the sector, let us now look at four companies listed on the ASX. The price potential of the companies under discussion has been analysed based on ‘Price/Earnings’ method.

1. ASX: GDI (GDI Property Group)

(Recommendation: Buy, Potential Upside: Low Double Digit, Mcap: A$636.88 Million)

GDI Property Group is a funds management and integrated property management firm. It invests in the office & industrial spaces and manages funds under its administration.   

Valuation

Our illustrative valuation model suggest that stock has a potential upside of 30.6% on 7 January 2021. For the said purposes, we have taken peers such as Goodman Group. (ASX:GMG), Desane Group Holdings Ltd. (ASX: DGH), Home Consortium Ltd. (ASX: HMC). The stock delivered annualized yield of 6.59%.

2. ASX: CMW (Cromwell Property Group)

(Recommendation: Buy, Potential Upside: Low Double Digit, Mcap: A$2.26 Billion)

Cromwell Property Group engages in diversified property management business including direct property investments, indirect property investments in Cromwell European REIT, LDK Seniors Living, and Cromwell Polish Retail Fund.

Valuation

Our illustrative valuation model suggest that stock has a potential upside of 29.8% on 7 January 2021. For the said purposes, we have taken peers such as National Storage Reit (ASX: NSR), Aventus Group (ASX: AVN), LendLease Group (ASX: LLC). The stock delivered annualized yield of 8.67%.

3. ASX: DXS (Dexus)

(Recommendation: Hold, Potential Upside: Low Double-Digit, Mcap: A$10.11 Billion)

Dexus Limited is a real estate group engaged in the ownership and management of a portfolio of properties.

Valuation

Our illustrative valuation model suggest that stock has a potential upside of 17.8% on 7 January 2021. For the said purposes, we have taken peers such as Goodman Group (ASX: GMG), LendLease GroupGroup (ASX: LLC), GPT Group (ASX: GPT). The stock delivered annualized yield of 5.60%.

4. ASX: COF (Centuria Office REIT)

(Recommendation: Hold, Potential Upside: Low Double-Digit, Mcap: A$1.11 Billion)

COF is an office REIT company owning 23 high quality Australian office assets of $2.1 billion. It invests in commercial office property in metros and closer to city office spaces through a listed property trust in Australia.

Valuation

Our illustrative valuation model suggest that stock has a potential upside of 16.3% on 7 January 2021. For the said purposes, we have taken peers such as Aventus Group (ASX:AVN), Scentre Group (ASX: SCG), Cromwell Property Group (ASX: CMW). The stock delivered annualized yield of 7.93%.

Note: All the recommendations and the calculations are based on the closing price of 7 January 2021. The financial information has been retrieved from the respective company’s website and Refinitiv (Thomson Reuters).

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