Non-residential property is still healthy, thank you

Non-residential property is still healthy, thank you

29-10-2008

Office- and industrial-property rentals continue to grow impressively, shows the latest issue of Rode’s Report on the SA Property Market. In spite of this, building plans approved for new office and industrial buildings are slowing down markedly.

No doubt, this anomaly is the result of the uncertain international environment and high interest rates, says Rode’s Report editor John Lottering.

In tandem with these risk factors, capitalization rates are also weakening slightly. This possibly reflects the lagged impact of rising interest rates. However, says Lottering, one must remember that cap rates are not determined only by interest rates, but that investment demand and prospects for capital returns also play a role. Fortunately, when interest rates started rising in the second half of 2006, property fundamentals were – and mostly still are – quite strong.

Says Lottering: ‘Barring a severe economic slowdown, we expect continued strong property fundamentals to keep capitalization rates from moving too far north. In addition, the now improved outlook for inflation, brought on by the re-weighing of the CPI, as well as lower oil and food prices, as well as the “base effect”, might also help in keeping capitalization rates at bay. Having said that, a weakening rand exchange rate poses a severe threat to inflation. Thus we do not expect interest rates to come down to their levels of 2006 any time soon, and capitalization rates might have seen their best levels for a long time to come.

Good news is that office rentals have continued to record impressive growth. Nominal rentals in top decentralized office areas such as Pretoria (+21%); Cape Town (+16%) and Johannesburg (+13%) all managed to achieve growth in excess of the expected growth in building costs of 10%. In Durban decentralized, market rentals were, on the whole, only 4% higher than a year ago.

Rentals in the industrial market have also shown vigorous growth, with prime industrial rentals up by as much as 26% in Durban, and by 18% in the Cape Peninsula and the Central Witwatersrand. Port Elizabeth recorded the weakest growth at only 11% higher than the same quarter a year earlier.

Rental growth in all major industrial nodes has managed to keep ahead of building costs. However, says Lottering, overall economic growth is still expected to ease to about 3% p.a. over the next few years – ‘much lower than the 5% p.a. we’ve been enjoying since 2004; thus, combined with the ongoing constraint on energy supplies, we could, therefore, expect to see a moderation in these growth rates as compared to the past few years.’

Flat rentals also grew during the second quarter of 2008, with the best results seen by Pretoria (+15%) and Durban (+14%). The metropolitan areas of Port Elizabeth, Cape Town and Johannesburg showed growth rates of 9-11%. However, points out Lottering: ‘Over the same period, consumer inflation grew by approximately 12%; hence, only property owners in Pretoria and Durban have achieved any real rental growth over the past year.’

Regarding the house market, Lottering says: ‘House-price growth is expected to continue drifting lower from its peak at the end of last year. And as one would expect from this, building activity in the residential sector is declining.’

Says Lottering: ‘The slowdown in non-residential building plans passed will present some good news down the line because of increased competition among contractors. This will no doubt force them to prune their profit margins and, consequently, lead to lower building-cost inflation.’