Investment Research Group
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However, since early 2001, most of the listed property trusts have defied their nature by delivering superb returns from rocketing share prices combined with the usual high dividend payout.
The conditions have been perfect for property trusts. Firstly, falling interest rates made their high dividend yield seem more attractive, which increased demand for the shares, driving up the share prices.
Moreover, the dividends too have been rising, thanks to a strong rental market that feeds the coffers from which the trusts pay their dividends. The underlying property values have increased in line with rising rental returns.
However, the question is whether the trusts have now peaked. And as peaks are usually followed by falls, are the trusts vulnerable to a property decline? A lot depends on where we are in the commercial property cycle.
In their book, Fortune Strategy, Arun Abey and Ean Higgins studied the boom bust cycles in Australian and New Zealand and found it follows a typical pattern.
At the start of the cycle, property prices boom due to genuine support. At some stage however, the economy starts to falter or there is some other changed circumstance that will lead to a collapse of underlying demand.
On the physical side, a lag period follows in which the momentum of market sentiment keeps property transaction prices on the move. However, investors in listed property trusts start seeing the change first, and the value of listed units start to decline.
The fundamentals then start to take affect. Nobody wants to buy property, or at least not at the prices that owners and developers, who are still psychologically riding the boom – will accept. During this period almost no sales are made. “The market operates in the make believe land of property valuations, in which valuers, working on the transaction prices of the lag phase, extrapolate the boom into a theoretical phase,” explains Arun Abey.
The point comes, however, when the make-believe edifice falls down, owners are forced` to sell and transaction prices plummet to reflect real value.
After consolidation, the whole process starts again.
The 1987-91 boom in NZ and Australia was typical of the cycle, says Abey. “When listed property trust units lost value in 1987-89, while the property market continued to boom, critics said that securitised property investment reflects the equity market rather than the property market. In fact, the market for listed property trusts got it right, and the physical market got it wrong.”
So what are listed property trusts telling us right now? A look at unit prices trading at record level seems to indicate that property trusts foresee no impending downturn in the commercial property market. However, as they are tracking sideways, it also shows there is little upside left in the market. Interest rates are unlikely to fall further, removing the main driving force in their recent rise. And the property market itself is at a peak.
Property trusts are vulnerable to a decline in economic activity, as demand for commercial and office space declines. Any pressure on rental income shows up quickly in returns, causing the share price to fall. But usually, the property trust has already reacted to the bad news and their shares have already fallen – which means you have to study property trends carefully to stay ahead of the game.
