Chris Bedingfield

Listed property has de-rated significantly over the past 12 – 18 months, which has led to an increase in attractive opportunities in the global market, according to principal and portfolio manager at Quay Global Investors, Chris Bedingfield.

“When it comes to real estate, supply and demand matter. Based on company feedback and published macro-economic data, there is little sign there will be any new supply to the property in the medium term.

“As a result, we are expecting an emerging rental squeeze across most real estate asset classes over the next few years.”

While commercial property is facing a range of challenges in this stage of the cycle, Bedingfield says there are still good opportunities for investors.

“For example, while large regional shopping centres, with a high number of non-discretionary specialty stores, may seem the most exposed to the impact of higher interest rates and inflation, we expect they will do well in the current environment.

“The performance of Scentre Group (ASX: SCG) through this cycle is a great example of this. It is experiencing strong rental and occupancy rates.

Source: Scentre Group, Quay Global Investors

Bedingfield says the pure play online business model in retail is under pressure, and more businesses are focusing on securing bricks and mortar.

“Rising customer acquisition costs, difficulty in satisfying price/timing expectations on deliveries, and the struggles in building brand loyalty are reflected in the flatlining of online sales share of total retail sales in Australia.

“And the good news is that brick and mortar retail sales have outstripped landlords’ ability to lift rent over the past few years. This has led to significant ‘under-renting’ across the top shopping centre REITs.

“We believe the current solution is the omni-channel strategy, which will sustain leasing demand, rents and cashflow for the major retail landlords,” says Bedingfield.

In office space, the work from home (WFH) dynamic is the key challenge, which Bedingfield says still limits a business’s ability to reduce its overall office space.

“Being in the office two days a week implies a 60 per cent reduction in the need for office space. However, most businesses don’t have a highly efficient and highly restrictive rostering system in place that prohibits employees from coming into the office on their designated ‘WFH’ days, limiting a business’s ability to reduce their office space.”

“Leasing results for top tier buildings in the financial hubs of London and New York reflect a trend toward pre-pandemic averages. We believe other financial-based cities, such as Sydney may follow suit.

“That being said, the Sydney CBD’s new supply of new office buildings is on track to be delivered in the near future. That makes us cautious.”

Bedingfield believes other sectors including senior housing, which performed poorly during the pandemic, is now a promising opportunity.

“During COVID-19 occupancy levels fell 10-20 per cent across healthcare REITs in the US and Canada. But with COVID-19 in the rear-view mirror and a rapidly ageing population, we are beginning to see a sustained recovery in occupancy rates.

“This is having an outsized impact on earnings and cashflow growth due to the operating leverage in these overseas REIT structures.

On the other hand, Bedingfield believes industrial assets such as warehouses will come under pressure.

“During COVID-19, many businesses advanced their online strategies, to take advantage of lockdown-induced levels of demand.

“For the past two to three years, the lag in supply led to low vacancy rates, a highly competitive leasing environment, and record-breaking rental growth for warehouses. This led to a very crowded sector.

“From a valuation standpoint, the opportunities to buy the underlying real estate below replacement cost are few and far between, and we are now seeing cracks appear, especially in the US.

“US employment growth in the warehouse sector has historically been an accurate lead indicator for market rent growth in the US. Companies are being forced to lay-off staff amid rising cost pressures, and we think it is highly unlikely that this sector will be well positioned for a significant increase in monthly rent expense.”

Source: Greenstreet Research, U.S. Bureau of Labor Statistics, Quay Global Investors. *YTD Aug 23.

Bedingfield concludes: “With all of these macroeconomic challenges at hand, it is worth remembering that long-term real estate security prices follow earnings, and earnings, in turn, are driven by rents and cashflow.

“With this in mind, we are seeing promising opportunities in sectors including senior housing, data centres and retail.”

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