The A-REIT property sectors have each reacted differently to the higher interest rate environment, however alternative real estate sectors have been a current stand-out, according to Pengana Portfolio Manager Amy Pham.
Pham, who manages the Pengana High Conviction Property Securities Fund, said recent quarterly updates showed the only sectors that reported an increase in valuations had greater earnings certainty.
“Property assets in childcare, healthcare, and non-discretionary retail reported cap rate compressions as they continue to attract capital flows due to their relatively stable earnings profile,” Pham said.
“Alternative assets such as childcare, healthcare, seniors living and defensive retailing will continue to be relatively insulated.
“Their certainty of income is based on demand, which is driven by secular trends and long-term stable tenancies.”
Pham pointed to June 2022 preliminary valuation increases on December 2021 including Arena REIT up 7.8%, HomeCo Wellness REIT up 4.1%, and an increase of 4.6% for HomeCo Daily Needs REIT.
The portfolio manager said in other sectors, cap rate spreads to real yields were elevated for retail, on par for office and below average for industrial.
Pham said the office sector was looking slightly more vulnerable when compared to industrial and retail property.
“Further pressure is being placed on rents due to the slow rebound to physical occupancy from pre-COVID levels, vacancy rates of over 12% in major cities and 30% tenant incentives,” she said.
“The flight to quality has also seen an increase in capex for older assets dragging on operating income in the near term.”
While industrial would seem to have the most downside risk on the surface, Pham said this did not take into account some ongoing tailwinds.
“Industrial has a positive outlook for rental growth based on continued demand and limited supply,”
“This has driven rental growth to record levels, which are now up around 10% year-on-year in several eastern seaboard infill markets.
“Whilst growth will moderate, there is potential for high single-digit growth to remain over the next two-to-three years, offsetting pressure from higher rates, due to structural tailwinds from the growth in e-commerce.”