Listed property wipes out discount to directly-held property

8-03-2003

Listed property has finally wiped out its undervalued status relative to directly-held property. This property class is now on average trading at a small premium relative to non-listed property, which should lead to more listings of directly-held property in the listed property sector.

Property economists Rode & Associates’ latest review of the property market shows that listed property was about 5% overvalued relative to correctly valued, directly held property at the end of 2002. This follows a consistent narrowing of the value gap over the previous three quarters, as investors’ appetite for listed property as a “secure” investment grew, says Rode’s Report editor Dirk De Vynck.

Turning to capitalization rates — the non-listed property equivalent of the forward earnings yield on shares — no deviation from the weakening (upward) trend, which has been evident since the beginning of 2001, was seen in quarter 2002:4. “The reason for this can probably be found in the cyclical oversupply of non-residential space, maybe exacerbated by the four 1%-point increases in mortgage interest rates in 2002,” says De Vynck.

As far as shopping centres are concerned, De Vynck says that, on a national basis, capitalization rates continued to weaken. Community shopping centre cap rates increased from 13,0% to 13,3%, whilst neighbourhood shopping centre cap rates increased from 14,2% to 14,5%.

These are massive jumps for one quarter, which seem to indicate an oversupply in these types of shopping centres. De Vynck says this is due to shoppers’ preference for the small convenience centres and, at the other end of the spectrum, the large regional shopping centres at the cost of the "in-between" community and neighbourhood centres.

A glimmer of hope though for one sector of the non-residential industry comes from the industrial market, which is showing the first signs of a turn-around. This has no doubt been helped along by a gradual increase in manufacturing production since mid-1999, further boosted in 2002 by the sharp devaluation of the rand’s external value and a slowdown in the building of industrial and warehouse space.

This hope of better things to come was especially evident in industrial rentals in the Cape Peninsula and Port Elizabeth, although signs of a turnaround were also evident in many of the Central Witwatersrand’s and Durban’s industrial townships.

Turning to the office market, there were early indications that the debilitating effect of the oversupply of office space on decentralised rentals could be at its end. Still, it will take some time though before investors are convinced that there has been a turnaround in the oversupply situation, and ultimately before office capitalization rates start improving.

As far as the CBDs are concerned, real prime office rentals in Cape Town and Durban increased for the second quarter running. In the case of Cape Town, this can be an indication that the city improvement district is bearing fruit. In Johannesburg and Pretoria, though, real rentals were still lifeless.

According to Rode's latest analysis of Sapoa’s office vacancy schedule, office demand in decentralised Pretoria, Cape Town and Durban was up in quarter 2002:4. Johannesburg decentralised, however, reported a slight contraction in demand, although average take-up (growth in demand) for the last four quarters is still positive.

On the whole, real flat rentals in all the major metro areas, barring Johannesburg, continued their downward path in quarter 2002:4. However, in light of the Reserve Bank’s intention of leaving interest rates on their current high levels for some time to come, the demand for flat accommodation will remain buoyant over the next few months.

Real house prices in the upper- and middle-priced suburbs of South Africa’s main cities started buckling under the pressure of higher interest rates in quarter 2002:2. Rode expects that the fall in real house prices will continue, especially after a further 1%-point interest rate hike followed in quarter 2002:3. As far as lower-priced suburbs are concerned, the downward trend in real prices of the last 10 years continued. This could reflect a structural change, with the lower-middle class getting poorer.

In the home building industry, conditions remain depressed. Still, Rode’s research shows that the growth in profit margins of home builders is still pretty high, although a levelling off in the growth rate has been noticed in the last year or so.