Potential investors in Australian property trusts shouldn’t just look at the price of their investment holdings in isolation. The underlying value of the assets and the prospect of strong rental growth underpinning their investment is equally important perhaps even more so especially for income focused investors. This raises an interesting dichotomy. Whilst the S&P/AREIT 200 Accumulation Index was down 6.3% in the financial year to 30 June 2017, high quality commercial property prices in retail, office and industrial sectors are close to or have breached historical highs.
If an asset’s value is a function of the income stream it delivers, you’d think the two would line up. And yet for the past year at least, they don’t. Why?
Obviously, a variety of characteristics differentiate an investment in a physical property to its listed counterpart, mainly the relative liquidity. But the dichotomy, located at the intersection of risk and return, still exists. Our research team recently set about trying to resolve it.
The graph below shows the difference between the current implied risk premiums (transaction yield minus nominal risk-free interest rate) reflected by market transactions, and the prevailing level over the previous 10-year period. The gap between the two, shown in black for each property type, in particular, captured our interest.