While investors tend to look to the themes and trends driving investment opportunities, it is also useful to recognise the ‘anti-themes’ influencing markets, says Chris Bedingfield, Portfolio Manager at Quay Global Investors.
“In all asset classes there are sectors with potential long-term headwinds that may detract from future performance. Knowing what to avoid is as critical as knowing what to choose.
“For instance, in property investing, the theme of an aging population is one that drives many investors who are seeking to take advantage of the growing demand for aged care and medical facilities, and affordable accommodation in areas close to these amenities.
“But important anti-themes exist alongside this long-term positive theme.
“So while we believe that property, and particularly global property, offers a number of potential benefits for investor portfolios, there are a number of areas that we are steering clear of, in order to help manage risk and preserve investors’ capital,” he says.
Australian residential property
There has been a notable surge in new supply in Australian dwellings over the past 18 months, with this forecast to continue for at least another 12 months. As a consequence, Chris believes the return outlook from residential development in Australia is poor.
“The current rate of new supply dwarfs anything we have ever seen in Australia for almost 40 years. While the population is growing, there’s still a massive profit motive for developers to supply the market with new stock.
“However, valuations in Australia are clearly stretched and we believe there is a risk that some type of price correction is inevitable.
“With so many other opportunities available to investors in property, we find it hard to make a case for exposing ourselves to the current level of risk in Australian residential property.”
Shopping centres
Retail property is a great example of where a truly active investment strategy can really benefit investors, Chris says.
“While high-end, ‘best-in-class’ shopping centres have the potential to thrive, there are a number of headwinds for ‘mid-market’ malls and the retail asset class in general.
“As the mid-market is getting squeezed by a declining middle-class, retail landlords will need greater focus on the luxury retailers. The old retailer model of hundreds of stores will end, and retailers are likely to have significantly fewer stores to supplement their online offering.
“Centres that do not fit this ‘best-in-class’ criteria will have limited development opportunity and may become ‘capex machines’ – lots of capital for low return – in order to keep major tenants.
“Investors should be wary of retail property as an investment, and choose their opportunities carefully, as there will be large variation in the performance of different assets.”
Office property
Chris said Quay is becoming wary of the office property sector and recently sold its only pure office exposure.
“A useful framework is to categorise certain types of real estate into ‘franchise’ or ‘commodity’. Commodity real estate is easily replicated; it therefore trades around replacement cost. We believe office property fits neatly into this category.
“This framework helps explain the current office supply surge across key gateway markets around the world.
“Low interest rates and the search for yield tends to push prices above long-term marginal cost, which in turn encourages a supply response.
“In some instances, the supply response will deliver new stock right at the time demand potentially begins to weaken – for example, London following Brexit, where the vacancy rates are forecast to reach 11 percent by 2019 in the city, almost double what they are today.
“Moreover, office property tends to have very high ongoing capital expenditure requirements due to high levels of tenant incentives and leasing commissions, and high build-to-land ratios, resulting in high economic depreciation rates (especially in urban locations).
“As we enter the ‘supply response phase’ of the cycle, we think it is probable that the best of office property returns is now behind us.”
