After several challenging years, the SA listed property sector is experiencing good momentum, with share prices recovering by 30% between the end of October 2023 and early July 2024. The sector was the best-performing asset class in 2023, with 10.1% total returns. It’s also the best-performing asset class this year, as of 30 June 2024, with total returns of 9.6%.
The resurgence has primarily been fuelled by improving fundamentals across all sectors – retail, office and industrial. The initial upswing last year was propelled mainly by the US Federal Reserve’s indication that it would halt interest-rate hikes. This was followed by institutional buying, notably by the Public Investment Corporation (PIC), which bolstered its stake in several listed property companies and REITs to approximately 20%. The sector gained further momentum after the national elections, buoyed by the announcement of the Government of National Unity (GNU).
The listed property sector has endured several challenges. The initial decline in share prices happened at the beginning of 2018. This was driven by several allegations, including market manipulation, within the former Resilient REIT stable funds. These proved unfounded, and the Financial Sector Conduct Authority cleared Resilient REIT of any wrongdoing. This was followed by weak economic growth and excess office space.
Then came COVID-19, and the sector weakened further. Property companies had to offer rental relief to tenants, which had an impact on rental growth and, therefore, earnings. While the industry was starting to recover from the negative impact of COVID-19, there was social unrest in KwaZulu-Natal and Gauteng, which led to massive looting in several retail centres and warehouses. As the sector recovered from this, the South African Reserve Bank went through an interest-rate hiking cycle, raising interest rates by 475 basis points. As interest rates increased, we were faced with loadshedding, with 2023 being the worst year ever for power disruptions. This was costly for the sector, in terms of diesel spent to power generators, lost trade for tenants, and shoppers staying home, to avoid traffic delays caused by non-functioning traffic lights. In addition, municipalities continued to increase rates and taxes at levels above the inflation rate.
Despite the massive increase in interest rates, the sector’s balance sheet remains strong. Loan-to-value ratios are about 40% on average, and interest cover ratios are 2.3 times. The sector has sold assets to assist in reducing debt. Most of the disposals have been at around book value. The disposal process has been well managed, and there has been no desperate sale of properties.
The retail sector has recovered, and the various categories of centres are all doing well, with the township and rural centres being the standout performers. Trading densities (sales per square metre) are up over 4% year-on-year. The industrial sector, which consists mainly of warehouses and distribution centres, has continued to be resilient, boosted by the increase in online shopping. Vacancies remain low, and new supply is limited.
While the office sector has experienced a challenging period, it’s now experiencing a decline in vacancies, which peaked at almost 20% during the COVID-19 era. Vacancies have now fallen to 14%. Rental growth, though still negative, is showing signs of improvement. It’s likely to improve further as employees return to offices and as business confidence improves. There’s barely any new supply.
Listed property allocation in balanced funds has been low, at around 3%, having peaked at 6% to 7% before 2018. The sector started to see institutional buying come through in 2024, largely led by the PIC. Despite the outperformance so far this year and in 2023, the sector has yet to experience inflows from retail investors.
Earnings (distributable income per share (DIPS)) will likely decline by 3% to 4% on average in 2024, primarily driven by higher interest rates. They should turn positive in 2025 and will probably return to above inflation levels in 2026. More robust earnings growth could occur earlier, if the economy grows faster and interest-rate cuts happen sooner, and more aggressively.
The sector offers a DIPS yield of about 12%, which is 1% higher than bond yields. The dividend yield is about 10%, as listed funds now pay out about 85% of their earnings, compared to 100% a few years ago. Cash retained is used to reduce debt and fund capital expenditure, including refurbishments, and the installation of solar panels and water tanks, given growing concerns around water outages.
Higher interest rates are almost entirely in the numbers for property companies and REITs. Interest-rate cuts will help to support earnings growth, and boost retail spending, the economy and share price performance over time. The risks, however, include higher-for-longer interest rates, the GNU not working out as expected, the resumption of loadshedding, and increased water outages. – by Keillen Ndlovu, independent property analyst
