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Property: Looking healthier, but still some concerns

AMP Henderson Global Investors gives its views on which property sectors will do well this year.

Friday, February 2nd 2001, 1:17PM

Property as an asset class found it tough going for most of 2000. A weak economy coupled with low business and consumer confidence meant that tenant demand across most markets was moderate at best.

Moreover, for the first part of the year at least, property along with other 'old economy' assets was a low priority on most investors' radar screens. Compounding matters, interest rate movements during the early and middle months of the year, particularly at the short end, went against the property sector.

However, sentiment towards property firmed during the latter part of the year on the back of good economic news and a 75 basis point fall in bond rates. Also, as the 'new economy' sector faltered, the attributes of cashflow strong assets such as property, once again came to the fore. Thus, despite the generally negative prognosis for the property sector that prevailed at the beginning of the year, by year-end, property had turned in what might be described as a steady, if not spectacular performance.

Turning more specifically to market demand-supply dynamics over 2000; rentals across most sectors either stayed flat (Auckland prime office, Wellington secondary office, retail and industrial) or fell slightly (Auckland secondary office). Wellington prime office rents however increased, specifically, over the last half of the year.

Office yields softened, prime retail and prime industrial yields did not change and secondary industrial yields softened marginally.

On a positive note, vacancy rates across most markets, with the exception of secondary Auckland office space, have all trended downwards over 2000.

On the investment side 2000 was relatively quiet. Although owner-occupiers continued to be active in the lower price ranges, syndicates following a number of under-subscribed issues and a period of negative press were noticeable by their absence.

Much has been made in the media over recent months of a re-emergence of overseas investor interest in the New Zealand commercial property market. However, to date, this interest has not feed through to any great extent in terms of actual acquisitions.

The listed property sector languished for most of the first half of 2000 in the face of a market focused on 'new economy' stocks and concerns about demand-supply dynamics in the direct property market. Performance picked up over the second half of the year as investors looked to increase their defensive weightings and valuations responded to a firming in bond rates.

Over the whole year listed property provided a total return of 7.5% (Ord Minnet gross property index) as against a wider index return of -8.0% (NZSE40). Notable listed property sector performers were AMP NZ Office Trust ranked second with a total return of 17.9%, Property for Industry ranked third with a total return of 12.3% with Colonial Property Trust leading the pack with a total return of 18.6%. In summary - very much a year of two halves for listed property!

It is our perception that property sector prospects are healthier now than they were six months ago as a result of a stronger than anticipated economic turn-around. While this turn-around is still export sector focused its increasing diffusion through the domestic economy augurs well for property over the coming year. However, while vacancy rates have either fallen or remained stable over the last couple of years, demand-supply balances in our opinion across most property sectors remain challenging.

This is especially so with respect to the Auckland CBD office market where some 100,000 square metres of new supply is forecast to be added to the stock over the 1998-2002 period.

Of some concern for the market is that this supply will be coming on at a time when demand, specifically for secondary quality space is forecast to remain subdued. While we don't expect the current whole market CBD vacancy rate of 16% to fall to any great extent over the next couple of years, demand at the top end of the market remains robust (vacancy less than 10%).

This is symptomatic of the extent to which large and medium size corporates are now, to a far greater extent than previously, focused on better quality space offering harbour views, space efficiencies and flexibility.

While we expect rentals for prime quality space to be maintained at current levels and for the best space to increase over the short to medium term, for the vast majority of the market, that is 90% of the stock, it seems likely that rentals will at best remain flat.

The short-term prognosis for the Wellington office market, largely on the basis of minimal new supply, is probably more favourable than that for Auckland. Like Auckland and perhaps to an even greater extent, options at the prime end of the market are becoming increasingly limited.

Specifically, we forecast whole market vacancy rates (currently 11%) to remain flat over the short to medium term, secondary space rentals to remain flat and prime rentals to increase. The prime space vacancy rate in the Wellington CBD is now less than 5%.

Investor interest in both major office markets, especially for higher value properties, we expect to remain limited.

With the disappearance of the syndicates and limited overseas investor interest, New Zealand's office market has become increasingly dependent upon local investors. The lack of depth in the current market is of some concern.

Turning to industrial property a number of issues stand out. Asset allocation to the sector is likely to increase demand for prime assets. Industrial property more so than the other property sectors has been able over recent years to achieve consistent returns with low volatility. Having said that the market looks set to become increasingly stratified by both location and quality.

We are forecasting vacancy rates (currently circa 6% in Auckland), rentals and yields will all remain reasonably stable over the next twelve months.

The retail sector has benefited from strong growth in retail spending over the last couple of years. However, this growth has slowed and retailers, particularly those not in regional shopping centres, large format centres and strong main street locations are increasingly finding the going tough.

Retail sales growth in Auckland over the short term is likely to be moderate at best but as agricultural and other export earnings flow through the wider economy the retail spend should increase more rapidly.

In summary we remain of the view that the industrial and to a lesser extent the retail sectors, should on the back of more robust fundamentals, perform the best. Secondary quality CBD office property, especially in Auckland, will continue to find the going tough. Critically the increasingly divergent performance between prime and secondary quality assets and good and poor locations which has become evident over recent years, across all property sectors, is likely to not only continue, but also we believe become more marked in coming years.

Steve O'Malley is a property research analyst with AMP Henderson Global Investors (NZ) Ltd.

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Lender Flt 1yr 2yr 3yr
ANZ 5.79 5.05 5.19 5.49
ANZ Special - 4.55 4.69 4.99
ASB Bank 5.80 4.75 4.99 5.29
ASB Bank Special - 4.39 4.69 4.99
BNZ - Mortgage One 6.50 - - -
BNZ - Rapid Repay 5.95 - - -
BNZ - Special - 4.59 4.69 5.09
BNZ - Std, FlyBuys 5.90 4.99 5.29 5.59
BNZ - TotalMoney 5.90 - - -
Credit Union Auckland 6.70 - - -
Credit Union Baywide 6.15 5.45 5.50 -
Lender Flt 1yr 2yr 3yr
Credit Union North 6.45 - - -
Credit Union South 6.45 - - -
Finance Direct - - - -
First Credit Union 5.85 - - -
Heartland 6.70 7.00 7.25 7.85
Heartland Bank - Online - - - -
Heretaunga Building Society 5.75 5.00 5.20 -
Housing NZ Corp 5.79 4.75 4.99 5.29
HSBC Premier 5.79 4.19 4.29 4.89
HSBC Premier LVR > 80% - - - -
HSBC Special - - - -
Lender Flt 1yr 2yr 3yr
ICBC 5.80 4.59 4.69 5.09
Kiwibank 5.80 4.95 5.15 5.59
Kiwibank - Capped - - - -
Kiwibank - Offset 5.80 - - -
Kiwibank Special - 4.55 4.65 5.09
Liberty 5.69 - - -
Napier Building Society - - - -
Nelson Building Society 6.10 5.10 5.45 -
Resimac 5.30 4.86 4.94 5.30
RESIMAC Special 5.00 - 4.75 -
SBS Bank 5.89 4.99 5.19 5.59
Lender Flt 1yr 2yr 3yr
SBS Bank Special - 4.59 4.69 5.09
Sovereign 5.90 4.75 4.99 5.29
Sovereign Special - 4.39 4.69 4.99
The Co-operative Bank - Owner Occ 5.75 4.55 4.69 4.99
The Co-operative Bank - Standard 5.75 5.05 5.19 5.49
TSB Bank 5.80 4.80 5.15 5.45
TSB Special - 4.55 4.69 4.99
Wairarapa Building Society 5.70 4.85 4.99 -
Westpac 5.95 4.99 5.19 ▼5.44
Westpac - Capped rates - 5.26 5.36 -
Westpac - Offset 5.95 - - -
Lender Flt 1yr 2yr 3yr
Westpac Special - 4.59 4.74 ▼4.94
Median 5.82 4.78 4.99 5.29

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