Is commercial property near the top of the cycle?

Is commercial property near the top of the cycle?

26 October 2018

A $6 billion surge in corporate action in the listed property sector is the strongest signal yet, for some at least, that a correction is just around the corner, reports the AFR.

The last few weeks alone have seen a raft of major deal in the commercial property sector. These include:

  • The five-month duel for control of the $3.4 billion Investa Office Fund (IOF) end with Oxford Properties Group, the real estate arm of the Canadian pension fund OMERS, triumphing over US private equity group Blackstone.
  • PropertyLink give its tick of approval to a sweetened $723.4 million buyout proposal from private equity-backed logistics fund ESR Property.
  • Shareholders at fund manager Folkestone on Wednesday approve a $205 million takeover deal from Charter Hall.
  • Centuria Capital’s property platform acquire the $645 million Hines Global REIT portfolio containing office towers in Sydney, Melbourne and Brisbane.
  • Data centre operator NextDC is moving ahead with a compulsory acquisition of its landlord Asia Pacific Data Centre (APDC) Group in a $232 million deal.
  • US giant Hometown is completing a $685 million compulsory takeover of budget accommodation provider Gateway Lifestyle.

Another US player joined the M&A fray this month, with Starwood Capital to do due diligence on Australian Unity Office Fund after winning favour for its $480 million buyout bid.

The sheer volume of action in the sector is prompting analysts and investors to wonder if commercial property is near the top of the cycle.

“A lot of times, elevated levels of M&A are more indicative of being later cycle,” said Tim Slattery, managing director at Melbourne-based fund manager APN Property Group.

“Often you’re closer to a correction in asset values when you see more M&A. The question is whether the M&A continues or whether we are getting closer to the top and there’s more risk on the downside.”

“Capital city office markets are currently highly cyclic, with different markets at different stages of the cycle,” BIS Oxford Economics director Frank Gelber writes in The Australian.

“Some think the extraordinarily strong returns of the past five years mean we must be close to the end of the cycle. We can’t be. We haven’t started the building that will oversupply the market.

“The Sydney and Melbourne office markets are just beginning a strong development phase. On our forecasts, the upswing has another four to five years to run with strong growth in rents and property values driving returns.

JPMorgan banker Simon Ranson is also taking an optimistic view. While acknowledging the low Australian dollar can make platforms here easier pickings for offshore raiders, he believes the longer-term strength of the local economy and its property yields relative to other Asian regions are the real appeal.

“I don’t think it’s necessarily late stage. People have been saying it’s late stage for the last four years and they’ve been wrong,” he said.

Sydney and Melbourne office markets were “very well positioned” with low vacancy rates and continued strong demand for space, Dexus chief executive Darren Steinberg said.

“It’s a strange cycle. Traditionally it’s oversupply that brings an end to the cycle and neither market is looking like getting into an oversupplied position,” Mr Steinberg said.

“When we look at the fundamentals in front of us both ­markets are screening very attractively on a global basis, from both a cap rate and supply and demand perspective.”

BIS Oxford Economics predicts the annual average returns for office, industrial, and retail markets over the next five years to come mostly between 5 per cent and 8 per cent, says The Australian.

BIS expects returns in the subsequent five years (2023 to 2028) to be a little higher, but still well below 10 per cent and with a cyclic shift in performance between the sectors.