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Commercial real estate in Australia: weaker currency, better value

101 Miller Street

The decline of the Australian dollar has increased the attractiveness of Australia’s competitive commercial real estate markets.

As of early 2016, Australia’s economy is making a fairly smooth transition away from commodities-driven growth. The country is benefiting from lower interest rates, thanks to the Reserve Bank’s easing in monetary policy, and continued immigration. Lower interest rates have boosted consumers’ disposable income. This, in turn has provided a further boost to the housing construction cycle.

Australia has also benefited from the drop in the Australian dollar, from a 2011 peak of A$1: US$1.10 or so to the current level of around A$1:US$0.75. The drop in the currency has been mainly due to the deterioration in the terms of trade (the ratio of export prices to import prices). With the slowdown in China - and some other countries in the Asia-Pacific region, that ratio has dropped.

In falling, the Australian dollar has provided a shock absorber against the impact of the softness in the global economy. Australia’s economy achieved average growth of about 2.9% through 2014-15 and should remain reasonably firm in the coming year. A lower Australian dollar has reduced the level of competition that domestic producers face and has also boosted activities in key export sectors such as agriculture, tourism and education.

Global real estate investors have long seen Australia as being home to attractive and low risk markets for commercial real estate. At TH Real Estate we analyse real estate market risk according to four sources. One is liquidity - the ability to sell an office block, a shopping centre or an industrial property at any point in the real estate cycle. Another is the transparency of the local real estate market. A transparent market is one where an investor who is not deeply rooted in the local business culture can operate easily. Income security - which is reflected in the length of a standard lease and the presence of international occupiers - is the third source of risk. Volatility of income is the fourth source.

Australia scores well in relation to each of these four facets and taking into account a fifth key variable that has an influence on commercial real estate valuations - the yield on a 10-year Australian government bond - the markets here are ‘in the middle of the pack’ relative to other developed countries.

The global economic slowdown, volatility of financial markets and the slippage in the Australian dollar through 2015 had little impact on this. Jones Lang LaSalle (JLL) note that transaction volumes in the Australian office markets last year surpassed A$15bn for the second year in a row. Offshore investors accounted for 54% of transaction volumes. They included new players and existing offshore investors who were increasing their exposure to Australia.

According to JLL, 2015 was the fourth consecutive record-breaking year for Australia’s retail property market, with transaction volumes growing to A$8.4bn. Relative to previous years, offshore investors were also more active than they had been: in fact, purchases by offshore investors rose to new highs in 2015.

Interestingly, 2015 was also a record year for divestment of Australian office properties by offshore investors: many of these were players who were realising gains that they had made from counter-cyclical purchases, in the wake of the Global Financial Crisis.

Those investors who bought Australian commercial real estate at that time may well have made a profit on the movement of the currency - which would have boosted the gains that they would have made from the general fall in cap rates and rise in capital values.

Of course, the risk of a loss over time through adverse currency movements - a sustained fall in the Australian dollar relative to the US dollar and other currencies - is something that institutional investors can control. They can do this through use of currency forwards or derivatives - or reducing risk via funding the acquisition by borrowing in Australian dollars.

If the risk of a loss on the Australian dollar is something that can be mitigated - or eliminated - then the general fall in the currency since early 2013 is something that global real estate investors see as a positive. The attractive Australian markets have arguably become better value on this basis.
Looking forward, the general softness in the Australian dollar is likely to continue, given the fairly lacklustre prospects for demand for minerals and energy, and it is reasonable to assume for commodity prices and the currency to find a floor.  

Issued by Henderson Real Estate Asset Management Limited, 201 Bishopsgate, EC2M 3BN. Authorised and regulated by the Financial Conduct Authority. TH Real Estate is a name under which Henderson Real Estate Asset Management Limited provides investment products and services. The value of investments and any income will fluctuate (this may be partly be the result of exchange rate fluctuation) and investors may not get back the full amount invested. Where opinions have been expressed, they are based on current market conditions and are subject to change without notice.

Nick Evans

Nick Evans

Executive Director, Head of Australia

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