Some key trends have emerged so far in 2019 which will drive performance changes over the next 12 months in the Australian commercial real estate sector.
A key theme of AMP Capital’s 2019 House View report was allocating capital in a volatile market. The volatility we saw earlier in the year has only continued, if not intensified.
Looking at the global political and economic environment, we are seeing more and more volatility emerge. Volatility will continue to pervade and influence investment markets as the trade conflict between the US and China intensifies. In addition, there is greater concern around global growth as we move towards a US election next year.
That’s going to cascade down to Australia as well, where we expect to see a lower growth outlook. In our view, further cuts in the official cash rate are likely both here and also in the US. The main consequence of that is a continuation of the lower for longer thematic, which has dominated the commercial real estate market for some time now.
Lower for longer and longer
The lower for longer cash rate environment is turning into lower for longer, and longer. It’s a cycle that doesn’t appear to have an end in sight.
We didn’t anticipate ‘lower for longer and longer’ when we formed our House View six months ago and with that in mind, we need to reset our return expectations.
Looking at the retail sector, returns have surprised on the downside, as economic, consumer and structural factors – such as those around competition from e-commerce – really start to bite.
We expect to see further falls in total returns in regional and sub-regional shopping centres. However, these falls are expected to be felt less severely in leading regional and neighbourhood centres.
When considering retail, firstly, asset quality, location, convenience and experience will all be crucial. Secondly, where assets sit within this spectrum will help determine the success of their returns.
Bigger is better
Industrial and office were our two favoured real estate sectors earlier in the year and not much has changed in those markets, with our bias towards a flight to quality remaining.
In the logistics sector, if you’re looking for income growth in a very defensive market, we anticipate that quality assets in our biggest markets of Sydney and Melbourne will deliver the highest rental growth.
The office market remains resilient, however, return expectations are decelerating. The double-digit returns that have been on offer for the past two to three years are, in our opinion, likely to come off in the next 12 months as income growth, rental growth and demand-side factors start to slow, reflective of the broader softening of GDP growth in Australia.
As we move into 2020, our House View will have a mixed outlook. In our view, volatility will still be a big part of the picture. Looking at the sectors, we think there will be increasing appetite for alternative investments, such as real estate debt. In our view, real estate debt is a good play at a defensive point in the cycle.
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