Market prospects are improving with business confidence

by admin | 12th November 2013

The Australian economy is growing, albeit less strongly, as the boom in mining declines. Those industries affected by the high dollar are struggling while most others remain weak, generally explained by low business confidence. A broadening of investment after mining, probably into the construction and property markets, particularly housing, will become the next driver for the economy, but this will take time – well into the decade. Inflation remains subdued, but should the uncertainty in Europe and the slow growth in the US continue, interest rates may be cut further should the Australian economy become too soft.

The above review of the economy means that the commercial/industrial property market may see more of the same for some time until the new economic driver grows sufficiently to act as the ‘circuit breaker’. Thus the market continues to bump along the bottom. Some industry reports have indicated a steady level of transactions around $15 million and above, but these have been mostly in Sydney and Melbourne. However, the Brisbane office market has led the others. There have been only a few large industrial sales and those which have occurred have been from hard-pressed sellers with relatively high gearing. Pricing is presently stable with yields between 8% and 9%, which seems about right for the market. Investor focus has turned to rental growth and the assurance of the future rental stream.

Purchasers are in the market but activity is restricted by the absence of suitable stock. However, the improvement in credit availability has ensured that some sales – mostly under $5 million – have occurred. Vacant buildings still comprise the majority of sales with investments slowly increasing; after all, when was the last time one saw the difference between interest rates and yields approaching 4%? The number of land sales remains low but they are slowly increasing.

There is still a steady but low turnover in the lower end of the market, but this has been contained by the lack of suitable properties available. Thus rents and yields have remained reasonably stable.

Banks are a little more relaxed with their credit, but 65% LVRs for investments to 70% remain the norm. Some relaxation in the level of the interest-rate cover demanded has been well received.  While the RBA has reduced cash interest rates, longer-term rates are already higher. Nonetheless, the demand for and cost of capital in the future will eventually drive up interest rates.

The continuing reluctance of banks to extend credit for commercial (particularly industrial) property development and investment purposes will continue to hinder growth in the market as developers are unable to bring on new stock.  On the other hand, the lack of supply will drive rental and property prices higher.  The lack of supply is being addressed, in part, by a pipeline of some 444,000m2 of industrial space expected to be completed within the next year in the greater Brisbane area. Included in this is an estimated 124,000m2 of space in the Australia Trade Coast., new Bunnings Distribution Centre.

Land sales are few and this situation will prevail until bank policy changes.  Although construction costs are stable, the long approval process, lower rentals related to affordability and less demand has depressed prices. However, prices should not fall further.  When the take-up of existing stock occurs – and this is happening now – price increases will be first seen in rentals.  The firming of yields will occur last, but this will be a while away yet.

Leasing has been variable for some time. While leases have been generally shorter, some longer leases are coming through.  The shorter-term leases are either a reflection of the lack of confidence of lessees in their businesses or of the economy going forward and an expectation of better deals later.  There is no obvious preference for stand-alone properties over strata.  Discretionary decisions are still being delayed.

The stock of vacant buildings for lease and sale is steadily decreasing.  The higher demand and little stock entering the market are beginning to drive rentals higher.  It will become a seller’s market.  Availability depends on location, style and size.  In some locations and size ranges, a tenant’s choice is already severely restricted.

Property markets run in cycles and while the current one is at around the bottom, it is timely to get involved.  While difficult to find, opportunities are there in this languishing market. For those who can afford to buy or lease, do it soon: just keep reminding yourself of the huge differential between the long-term interest rate and the yield range, and do not forget depreciation.

Sales activity has been greatest under the $5 million mark and it is over this price tag where the best buying occurs.  If you are able to, purchase as early as possible before demand increases and prices are forced higher. 

Some pundits see the Brisbane industrial market eclipsing Melbourne’s in the early 2020s. This hypothesis is based on the high 15% annual growth experienced by the Brisbane market over the past decade or so. Sydney’s, by far the largest, and Melbourne’s growth rates over the same period, were 9%. This suggests that property managers may need to reweigh their portfolios in the not-too-distant future.

Prospective tenants may also take advantage of relatively lower rentals and negotiate concessions with rental review clauses to safeguard against future inflation.  On the other hand, landlords need to be increasingly flexible and structure leases to achieve the benefits of increased pricing in the near future.

Phil Ainsworth
Managing Director
September 2013

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