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Though there has been something of a recovery in property share prices in recent weeks after three months of negative returns, the sector is by and large still looking rather cheap.
This is particularly true for property stocks that generate all or most of their earnings in SA, with at least a dozen local counters now trading at dividend yields north of 10%.
That’s attractive compared with the average 6%-7% that income-dependent investors are getting on cash in the bank, or the just more than 8% on offer from government bonds.
In fact, the yield spread between government bonds and SA-focused property stocks is the highest it has been in 20 years, says Bridge Fund Managers chief investment officer Ian Anderson. Despite the 15%-18% recovery recorded in the year to date by the likes of Accelerate Property Fund, Octodec Investments, Emira Property and Indluplace Properties, Anderson says most local property counters still offer significant value relative to bonds and equities. Many are trading at sizeable discounts to NAV.
"[Property] is probably the only SA-focused sector on the JSE that has not responded positively to the improved political and economic backdrop and recent interest rate cut," he says.
This is probably because investors have focused on what has been happening to headline indices such as the SA listed property index, which has been dragged down by the sharp sell-off in Resilient stable shares, as well as some offshore counters, says Anderson.
The index is down more than 14% in the year to date.
Anderson refers to the price declines in the Resilient stable and the ensuing uncertainty around the group’s distribution (or dividend) growth numbers. "That has spooked investors who would otherwise have increased allocations to listed property — specifically SA-focused stocks," he says.
He notes that the stronger rand and headwinds faced by offshore property markets are also making would-be investors nervous, given the dominance of rand-hedge counters in the JSE real estate sector.
"These factors have created a unique buying opportunity for investors," says Anderson.
Kelly Hook, investment analyst at Metope Investment Managers, agrees that local property stocks are poised to benefit from the wave of positive sentiment that has swept across SA since the ANC’s December conference and the subsequent election of Cyril Ramaphosa as SA president.
Equally encouraging, says Hook, is that many property funds have rebased their dividends to more sustainable levels.
She refers to a worrying trend last year of companies boosting their dividend growth numbers through lower quality, one-off income sources such as trading and capital profits, underwriting or development fees, and foreign exchange gains.
"Poorer quality income, even if sustainable, dilutes the investment case and takes away from pure property income," says Hook.
Several funds have now "washed out" these one-off income distributions, which may produce lower dividend growth in the short term but will position these companies for sustained earnings growth in the future, she says.
Hook forecasts dividend growth for the sector as a whole of about 6%-7%/year for the next two years. That’s down from an average 9% last year, but still ahead of inflation.
For investors looking to increase their weighting to listed property, the trick will be to pick companies that offer both a relatively high initial dividend yield as well as above-market dividend growth prospects.
Two property counters that fit the bill, according to Anderson and Hook, are Fairvest Property Holdings and Tower Property Fund.
Fairvest owns a R2.8bn portfolio of smaller, community shopping centres that cater mostly to lower-income earners. Hook notes that the company has a history of delivering solid returns and a stable, growing dividend. Its portfolio is small and focused, allowing for active asset management decisions.
Says Hook: "We rate the management team as competent and experienced and see Fairvest as an attractive play in the sector."
Western Cape-based Tower offers investors an initial forward dividend yield of 12.5% and distribution growth that should at least match inflation over the next three to five years, says Anderson.
"Tower is currently unlocking significant value for shareholders at its flagship Cape Quarter Square and Cape Quarter Piazza in Cape Town’s De Waterkant, which is not reflected in the current share price," he notes.
While Tower has some exposure to shopping centres in Croatia in Eastern Europe, the bulk of its assets are located in SA, including residential developments in Cape Town.
Anderson adds Safari Investments to his current top three sector picks. It’s another small retail play that focuses on the mass market, and he believes it should benefit from sustained consumer spending on the back of government’s growing social welfare programme.
Safari owns shopping centres in Atteridgeville and Mamelodi in Pretoria, among others.
Peter Clark, portfolio manager at Investec Asset Management, singles out Vukile Property Fund, Attacq and Investec Property Fund as his top three SA-biased property plays. Vukile owns a R15bn portfolio of SA shopping centres as well as a stake in Fairvest.
"Vukile is delivering attractive distribution growth, which is largely being generated organically," says Clark. "Management has delivered on its strategy to reposition the portfolio towards high quality retail assets."
The company’s recent foray into Spain and its exposure to the UK logistics market through a stake in Atlantic Leaf Properties provide investors with exposure to hard currency income streams.
He also likes Attacq, which owns a number of shopping centres including the flagship Mall of Africa, which anchors Waterfall City, near Midrand. The company also has development rights for the entire mixed-use Waterfall precinct. In addition, it offers exposure to the UK and Eastern Europe through a stake in MAS Real Estate.
The company is in the process of converting to a real estate investment trust (Reit) and will start paying dividends later this year.
Says Clark: "Attacq is well positioned in a rising rate environment to provide higher growth through developments, while the conversion to a Reit provides income support to investors. Though there have been some management changes, we are confident that the company can still deliver."
Investec Property Fund boasts a team of strong, direct property operators and the core SA portfolio offers good operating metrics.
The fund’s offshore strategy will further enhance growth and diversification, says Clark. The company has exposure to Australia through a stake in Investec Australia Property Fund. Last week it made its first acquisition in Europe — a 42.9% interest in a portfolio of 22 logistics properties located across the continent for an initial equity investment of €74.2m.
"The European logistics investment plays into an attractive sector of the market and will be accretive for the fund. We think there is also some rental growth upside in this sector, which should support continued returns," says Clark. "We are, however, wary of the limited control within the European investment vehicle."
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