Property Investment Market and Performance - Assignment Example

Property Finance---The Fund Student’s Name Instructor Institution Course Date Table of Contents 1.0.Property Investment Landscape 2 2.0.Property Investment Market and Performance 6 3.0.Property Portfolio Construction 12 3.1.Reasons for using the money to invest in the sector (Real Estates) 13 3.1.1.Strong risk adjusted returns 13 3.1.2.Greater liquidity than investing in direct real estate alone 14 3.2.Risks Associated with the Sector 14 3.3.Exit Strategy for the Investment 15 List of Figures Figure 1: Quadrant Security Property Investment Market 5 Figure 2: Non-Residential Property Investment Market Returns: 1984-2015 7 Figure 3: Non-Residential Direct Real Estate Sectors---Total Returns to September 2015 8 Figure 4: Non-Residential Direct Real Estate Sub-Sectors Performance--- Total Returns Assessment to September 2015 9 Figure 5: A-REITs against Australian Equities 13 Figure 6: A-REITs Offers Yields in excess of 5% 14 Property Finance---The Fund 1.0. Property Investment Landscape Property investment and development in Australia is the dominant institutional property investors. Underpinned by the Australian government policy of mandatory superannuation, an understanding of the scope of property investment landscape is even easier. For investors, Australian commercial property is not all about understanding property investment landscapes that help in making decisions or sectors that have benefits and risks of investing, it is the conceptualization of these sectors within the premise of property investment and development in the capital market, competing asset classes, defining the size of Australian commercial investment property market and to say the least, a comparative analyses on the investment performance with competing asset classes especially after the adjustment for the reported low volatility from commercial property valuation that was based on performance indices. The conceptualization of these points within the framework of our case (an assessment of property investment landscape that will help in the investment of “The Fund”) it means the choice for the Australian sectors for investment will not only be decided on cost-risk basis but succinct identification of steps and considerations for the company so that such steps and considerations influences Australian fund managers’ property allocation decisions. Furthermore, this approach will not only suggest the sectors but offer ways of improving institutional allocation decisions towards property investments, which according to Baum et al. (2015) have been offering income focused returns. For the CEO and Board of Directors to understand the property investment and development in Australia, such require active management of asset to improve and maintain property returns. As high value thresholds as well as illiquidity continue to limit diversification, the company should note that it can be exposed to increased property specific risks. Securitized property is considered as one of the available property investment and development in Australia. This is an investment vehicle for the company to access to the property sector. According to research conducted by Lützkendorf et al. (2005) securitized property helps in the diversification of the risk, with the opportunity for a low cost of entry. Furthermore, with securitized property the company will be sure that the property investment options are professionally managed and extensive. Contrariwise, reports have indicated that securitized property many offer some risks especially if an investor considers it as the only property investment (Graeme and James, 2015). That is, in as much as in the ultimate returns on the securitized property investment adopt the underlying property asset returns; there are instances of short term performance which can vary depending on the platform of investment. Basing on the plan the company has and the amount of money allocated for investment, short term listed property movement may be associated with the liquidity that are on offer by the public equity market thus listed property may not help the company to reflect underlying property market value. One of the commonly adopted property investment landscape in Australia is funds of funds (sometimes called Property Securitised Funds). With a capital allocation of A$500 million for investment in the Australian real estate market, Property Securitised Funds will offer an efficient structure for the company to gain access to a wide array of direct as well as securitised property investment assets. As the case will apply, the company will be able to select the property assets as well as having access to specialist property funds that may otherwise be unavailable to investors. Both the securitized property and Property Securitised Funds will offer the company with a wide array of investment opportunities but with different returns and risk profiles. For betterment of understanding how it works, this report puts into four capital market categories but the categories are premised on whether they are traded on private or public markets and whether they are debt investment or equity. The figure below has been included to decipher information regarding the leading securitized property assets classes and investment market that can operate within each quadrant. Figure 1: Quadrant Security Property Investment Market Private Markets Pubic Markets Debt Assets Taking a case of Loans from Bank the company will have: Whole Commercial Mortgages Traded Debt Securities Property Trust Bonds Commercial Mortgage Backed Securities Equity Assets Private Entities Unlisted Property such as property syndicates and wholesale property funds Traded Public Securities Real estate investment trusts While the figure above elaborates the Australian market with regard to securitized property investment, it helps in understanding the available property investment landscape. Linking the table to the fundamental direct property asset, the company finds property investment choices as follows: Public Investment Products; According to Chen et al. (2015) Australian public investment products insinuate investments that can be traded easily over public exchanges therefore is adopted in this case will provide options on long and short term investment horizons. Public investment products that can be considered in this case are as follows: a. Commercial Mortgage Backed Securities (CMBS): the company is advised to consider this option as they generally undergo securities that are backed by a pool of mortgages that have been secured over commercial properties. The company will thus benefit as it was the case with Chater Hall Retail REIT. b. Real Estate Investment Trusts (REITS): since the company feels that investment in listed property will be selected only from the REIT’s included in the S&P/ASX 200 A-REIT index this option is a perfect fit since it will represent an unsecured claim against the property investment vehicle instead of claiming against the underlying properties. Private Investment Products: Private investment product is a representation of unlisted (illiquid) property investments with no central trading place. If chosen, it fits the company’s time horizon of 10 years because it is always long term. Private Investment Products are as follows: a. Property Syndicates: these are options that are focused at retail or small investors that offer low entry costs to trust that have been managed but range from a single property asset to a bigger diversified property portfolio. Since one of the objectives of the investment is “target total return for the Fund is inflation +9% with a variable risk tolerance” property syndicate will be another option. A good case where property syndicate has succeeded includes Australian Unity Office Property Fund and Stockland Direct Retail Trust No1. b. Commercial Mortgages: the company can use this option as traditional debt instruments when financing arrangements. They consist of whole commercial mortgages originating from and held by financial institutions and banks over a given period of time. 2.0. Property Investment Market and Performance Over the past 10-15 years non-residential property investment market has recorded an average of 10-15 percent total return. As a matter of fact, reports by Higgins (2015) indicate that this is the best performance since the Global Financial Crises (GFC). Figure 2 below has been adopted from PCA/IPD Property Index to indicate how non-residential property investment market has been performing between 1984 and 2015. Figure 2: Non-Residential Property Investment Market Returns: 1984-2015 Source: PCA/IPD Property Index PCA/IPD Australian Property Index has been tracking the performance of non-residential property investment market returns for retail, office and industrial. As at mid-2015 PCA/IPD Australian Property Index had tracked the performance of close to 1, 4000 non-residential assets that was worth more than A$160 billion. According to figure 2 above, ‘Other’ was recorded to have performed better for the period of the study. According to the figure, ‘Other’ insinuates track performance of carparks, hotels and healthcare facilities among related sectors. If chosen, this can be assure option of investing as the sector recorded a remarkable return of about 18 percent driven by a strong and stable capital return of approximately 8.4 percent according to figure 2 above. After ‘Other’, the next best sector in terms of performance was industrial which performed up to about 14 percent followed by office at about 13 percent and retails closing the range with about 11 percent. In order to compare and contrast investment returns across the core property sector markets this study assesses the trend in non-residential direct real estate sectors. Specifically, a blue print of such performance or returns to September 2015 will offer the company and the CEO insightful information regarding the current performance of property investment market. Figure 3: Non-Residential Direct Real Estate Sectors---Total Returns to September 2015 Source: PCA/IPD Property Index Assessing figure 3 in terms of sub-sectors, there has been positive performance across different sectors in as much as it has to be noted that such performance was mixed. According, healthcare remains to be sub-sector that performed very well during the period of observation with a total of about 19 percent returns followed closely with industrial estates which performed at about 16 percent. According to research conducted by Rydin (2016) between 2012 and 2015, good performance of the non-residential property investment has been due to positive tailwinds of economic, demographic and social changes in Australia in the last 10 years or more. For instance, Higgins (2015) found that currently, the demand for better housing and quality facilities have increased thus creating new investment opportunities. Furthermore, the positive trend has been instigated by relatively higher profits in comparison to the traditional sectors such as retail and office. In order to understand these trends, the study further divides performance of specific sub-sectors in such case, looking at performances of elements such as offices, warehouse, hotels, large and small retails among others between 2012 and 2015. Figure 4: Non-Residential Direct Real Estate Sub-Sectors Performance--- Total Returns Assessment to September 2015 Source: UBS Composite Australian Bond Index In as much as the figure indicates that the retail sector has continued to come in last at the level of sector, there is an indication that two of the five well performing sub-sectors are large format retails dealing in bulky goods and as per the figure this stands at approximately 15 percent. On the other hand, neighbourhood retail is currently standing at about 14 percent. The figure further shows that large format retail is going back in vogue. There is indeed rising prices of house, more so in places such as Melbourne and Sydney. Another important fact to note that indeed supports earlier findings that the uplift in housing supply has continued to flow through to stronger demand (Reddy 2016). In as much as there are reports that cyclical and structural challenges have been facing the supermarket sector, the figure 4 above shows that such does not appear to impact the performance of the retail centres (this could be basically anchored by either Woolworths or Coles supermarkets). Furthermore, it is note that they year before 30th September, the retail delivered about 14 percent with 7 percent capital growth. The figure also shows that Melbourne and Sydney were the pick of the Central Business District office markets both the cities returning about 15 percent. On the other hand, Parramatta was rated as well performing non- Central Business District office market with a total return of about 17 percent. This is an indication that there was improving demand for office spaces, due to what Reddy (2016) terms stronger Victorian or NSW growing economies. It has to be reiterated that things are not okay with office sector. This can be ascertained by the Perth CBD office markets in the figure as they record decline in values with a capital loss of close to 3 percent. However, the company looking to invest in the sector, it can be advised that with the vacancy rate picking soon in the Perth CDB for at least the next few years, it should be expected that there will be more pressure on values. On the other hand, the figure is an indication that industrial sector is performing very well as this has been driven by advances in supply chain distribution as well as on-going growths in ecommerce. Furthermore, older style industrial assets is seen to be performing or benefitting from the gentrification of inner city industrial areas since older models or style factories and warehouses are making way for residential development. In general, Australia posits an environment where all industrial sectors and sub-sectors continue to post strong returns (with warehouse at 14 percent, industrial estate at 16 percent and distribution standing at 13 percent). Generally, with the attractiveness of income yield ranging between 6 and 9 percent depending on the sector, as well as the wide spread to bond yields, the company should anticipate non-residential real estate to continue to be chased by different investors, more so the investment with capital allocation of between A$500 and A$1000 million for investment in the Australian real estate market or investors attracted by relatively high yields currently experienced in Australia. As a result non-residential property investment market is expected to perform well in the coming years. 3.0. Property Portfolio Construction Investors in real estate as it is in this case have basically tried to diversify portfolios through a process of what can be termed as naïve diversification. However, Modern Portfolio Theory (MPT) is advocated as an approach rational enough in property portfolio construction (Reddy 2016). As it is applicable in this case, real estate portfolio needs to be treated carefully so that the company will be able to identify the best combination of its assets to hold. In doing so the investors will understand the importance of each asset being evaluated with regard to its individual relative return and risks features, as will be measured by other variables such as standard deviation and mean and its portfolio risk as characterized by specific correlation with other assets. The portfolio is therefore based on the information provided but aims to offer different levels of diversification across different industries discussed geographies and sub-sectors so that if one investment theme will lag then another will pick up and boost the anticipated returns. The perfect property portfolio cannot all be residential neither all office, all industrial, all retail nor all in the one place. 3.1. Reasons for using the money to invest in the sector (Real Estates) If the board allows my decision of investing the allocated A$500 million in Real Estate (unlisted property fund ‘Trust Fund’) then the company stand to benefit from the following; 3.1.1. Strong risk adjusted returns Unlike other sectors, Real Estate (unlisted property fund ‘Trust Fund’) which is under “Australian Real Estate Investment Trust (A-REIT)” has been main beneficiary of investor appetite for yielding and defending investment. With A$500 million the company will be assured of highest property portfolios that are indeed managed by conservative capital policies. The figure below illustrates how the sector has been performing in comparison to others. It is indeed an indication that the sector has even outperformed Australian equities. Figure 5: A-REITs against Australian Equities Source: PCA/IPD Property Index The CEO should further be convinced that the A$500 million will even be safer in this sector owing to that in the next 5-10 years Australian REITS like Goodman Group and Federation Centres, Charter Hall Group have been major contributors and have stabilized the sector by redevelopment of their property portfolios (Rydin 2016). 3.1.2. Greater liquidity than investing in direct real estate alone Unlike other sectors, the company should investment of the A$500 million in Australian REITS since the sector offers greater liquidity management compared to investing in direct real estate alone. That is, the sector will offer investors liquidity when needed and at the same time allow accessing of high quality as well as diversified property portfolios. Based on research conducted by PCA/IPD Property Index, this sector currently offers yields in excess of 5 percent as compared to other sectors. See figure 6 below; Figure 6: A-REITs Offers Yields in excess of 5% Source: PCA/IPD Property Index 3.2. Risks Associated with the Sector The risk associated with the sector is that it may not be an effective vehicle in the Australian context for institutional investment in the private rental sector. However, this risk can be mitigated owing to the fact that the sector still offers access to private property equity market without elaborate time input or experience in property management. 3.3. Exit Strategy for the Investment One of the critical exit strategies the investment process will have is to sell the property investment from the real estate investment market. This option has been considered since the investment funds (A$500 million) are relatively liquid. On the other hand, sales of shares will be considered as the second exit strategy but this this may take longer period especially if the company is looking for immediate reimbursement. Other options the company has as exit strategies include Refinancing the investment and investing again Gifting the property to a relative or via a Trust Making improvements to increase the rental income References Anule, S.A. and Umeh, O.L., 2016. Investment performance indicators of selected Lagos commercial properties. Journal of Property Investment & Finance, 34(1). Baum, A., Crosby, N., Gallimore, P., McAllister, P. and Gray, A., 2015. The influence of valuers and valuations on the workings of the commercial property investment market. In Investment Property Forum (Research funded by the Education Trusts of the Investment Property Forum, Jones Lang LaSalle and the Royal Institution of Chartered Surveyors). Chen, C., Lo, K., Tsang, D. and Zhang, J., 2015. Earnings management, firm Location, and financial reporting discretion: An analysis of fair value reporting for investment property in an emerging market. Graeme, N. and James, W., 2015. Assessing risk for international real estate investments. Journal of Real Estate Research, 11(2), pp.103-115. Higgins, D., 2015. Defining the three Rs of commercial property market performance: Return, risk and ruin. Journal of Property Investment & Finance, 33(6), pp.481-493. Lützkendorf, T. and Lorenz, D., 2005. Sustainable property investment: valuing sustainable buildings through property performance assessment. Building Research & Information, 33(3), pp.212-234. PCA/IPD, 2015. Investment Performance Index, December 2015. Reddy, W., 2016. Real Asset Allocation: Evaluating The Diversification Benefits Of Property And Alternative Asset Classes In Australian Superannuation Portfolios. In PRRES 2016 (pp. 1-13). Pacific Rim Real Estate Society. Rydin, Y., 2016. Sustainability and the financialisation of commercial property: Making prime and non-prime markets. Environment and Planning D: Society and Space, p.0263775816633472. Read More