Ageing population's search for annuity boosts property demand

By Lucy Dean

November 27 2017
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Australian real estate prices are “at or near record highs”, but the ageing population’s search for regular annuity means the asset still performs better than government bonds.

That’s according to the head of real estate research at AMP Capital, Luke Dixon.

Referring to an AMP Capital white paper released recently, he said “strong demand” for the “broader real estate segment”, including office, retail, build to rent and industrial real estate will continue to support sturdy prices for “at least another year”.

This is because Australia’s ageing population is on the lookout for regular annuity opportunities in a low interest rate environment.

He said: “Real estate is still fairly priced. Record low interest rates and government bond yields has made real estate the asset of choice for yield hungry investors with a lower risk appetite.”

He pointed to east coast prime office yields which are sitting more than 280 basis points above the risk-free rate, compared to a 20-year average of 180 basis points.

Mr Dixon explained that while real estate prices are currently sitting at or near record highs, in terms of income, they are still performing better than government bonds. This means the ageing population is effectively acting as a deflator, he added.

Continuing, he said a slow down in the housing sector could also “keep the heat” in commercial property as pressure on the Reserve Bank of Australia to raise rates abates.

“Our modelling suggests that the longer inflation and interest rates are contained, the stronger the chase for yield and the higher prices will go,” Mr Dixon explained.

“Our view is the cycle could easily extend into 2019.”

At the same time, Mr Dixon said he anticipates 2018 will be “the peak of the cycle” in terms of capital value appreciation.

This is because global economic trends, like a shift away from quantitative easing will “inevitably place upward pressure on interest rates and bond rates in the short term”.

Together with AMP Capital, he also predicted a “flight to quality” in the office sector as flexible workspaces become a higher priority

“Australia’s roaring population growth, high infrastructure spending and positive business confidence will stabilise returns over the medium term for investors,” he continued.

“On a sector by sector basis, there will be mixed performance, however active management and a disciplined long-term strategy for attracting tenants will be critical to success.”

Noting that finding value is “not impossible”, but that it is “challenging”, he said the outperformance on the demand side in the current environment has been the result of fund managers targeting growth tenants and leveraging the demand supply conditions.

He advised: “Investors will need to focus on boosting income returns through active asset management as the current cycle matures and inevitably results in a slowdown.

“Redevelopment and targeting growth sectors such as technology, and e-commerce will be critical to achieving outperformance in rental growth.”

Arguing that the Australian commercial property sector “still has a little bit left in the tank”, he said investors still need to keep in mind that the sector and its participants are sitting in the property cycle’s “top quadrant”.

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