August 21, 2018

Property: taking stock of the Australian obsession

Caution but not panic is the mantra among top Australian property investors as they adjust to a new phase of the market cycle.

This was the consensus view among speakers at the KangaNews-National Australia Bank Fixed Income Beyond the Institutional Sector Summit in early August.

Residential property

The fall in residential property prices, especially in the key markets of Melbourne and Sydney, has picked up pace in recent months. But experienced investors say this is hardly a surprise given the preceding growth phase and limitations placed on housing credit. In fact, they believe the outcome that may be emerging – a soft landing – is likely the best long-run path for Australian property.

Gryphon Capital Investments (Gryphon) recently conducted a round of fundraising for a retail fund and Ashley Burtenshaw, partner at the firm, says one of the most commonly asked questions during the process was “should we sell the house if the outlook for house prices is negative?” Gryphon’s response was to emphasise the need for a long-term view.

“We don’t believe we can time markets, so we’d say don’t sell unless you absolutely have to,” Burtenshaw explains. “You have to be able to invest through cycles and find assets that perform through cycles. With that in mind, we spend a lot of time working out what’s driving the market – whether it be affordability, lending rates or other factors.”

Burtenshaw says Gryphon determined last year that house prices had “got way ahead of themselves”. Importantly, the firm remained invested – based on a view that affordability and the employment picture were relatively robust. Low borrowing cost is a critical factor, and Burtenshaw points out that mortgage rates have fallen to as low as approximately 3.5 per cent in recent years.

“This means we are focused on the serviceability of loans should mortgage rates climb,” Burtenshaw continues. “There is still very little wage inflation, so we moved to a defensive bias. But we like the regulator getting in front of the curve with higher capital charges on mortgages. This builds a safer financial system – which is what we want as debt investors.”

Global trends

The situation in Australia is far from unique. Chris Andrews, chief investment officer at La Trobe Financial, points out that the Melbourne and Sydney experience mirrors that of other world cities that have experienced property booms in recent years – including Hong Kong, London and New York.

“What we are seeing is previous hot spots cooling without crashing,” Andrews says. “The growth that Melbourne and Sydney were seeing 2-3 years ago was unsustainable, and it is the excess component that is retraced – and it is happening in a very orderly way.”

Commercial property

The story is more positive outside the residential sector, even in Melbourne and Sydney. Jason Huljich, head of real estate and funds management at Centuria Capital, says the conversion of old office stock into residential property and the purchase of office space for metro rail projects has taken a chunk out of supply in both cities. Sydney alone has lost 500,000sqm of commercial property space from a total stock of 5,500,000sqm in the city.

There is also a good-news story in the industrial property sector, Huljich adds, as the growth of online retail adds a premium to near-city warehouse space. He explains: “Delivery-time expectation is key in online retail – and expectations about rapid delivery have already gone from two days to same day. You can’t deliver quickly if you have a big warehouse 45 minutes out of the city. You need to be close.”

The key, property investors say, is to know where your skills lie and deploy them with care. As the global economy shifts from quantitative easing to a more normal environment, Burtenshaw says, it was inevitable that asset prices would be in for a bumpy ride. This is only more so because no-one really knows how the transition will play out.

“To manage this bumpy path we want to be in secured lending – which is the safest form of lending– and specifically within our sphere of understanding,” Burtenshaw says. “We also want to keep the repayment of our capital on a short horizon, because of the uncertainty. The longer it takes to get repaid our capital, the greater the exposure to volatility.”