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No rate cut risk: Investors have ‘learnt lesson’ from GFC – 3 July 2019

Australian Financial Review

Access to cheap money won’t inflate a bubble in Australia’s commercial property market because investors have “learnt their lesson” from the GFC, according to analysts.

Hungry for yield, investment has been surging into the commercial property market and listed property trusts as bond yields and interest rates fall to record lows, prompting some concern of a risk in reflating asset bubbles in shares, property and more speculative investments.

But David Cannington, head of research and strategy for Investa Property Group, said a low interest rate environment – with interest rates now at 1 per cent after two consecutive rate cuts by the Reserve Bank in June and July – did not create the same risks to the office market as it did for residential property.

“Most investors in commercial office market are cautious, they are obviously looking for strong returns but leverage is still quite low compared to the leverage levels at previous cycles,” Mr Cannington said.

“I think they’ve learnt their lesson from the GFC and have adjusted their risk appetite and the acceptable levels of leverage in their portfolio.”

Australian real estate investment trusts were badly hit by the financial crisis 12 years ago, after their high gearing, high payout ratios and onerous lending covenants across less diversified sources of debt caught them out.

AMP Capital chief economist Shane Oliver said that while the creation of a bubble in the commercial real estate sector was a risk in the low interest environment, and that interest in the sector had increased pushing down yields, it hadn’t been “manic”.

“Some have expressed concern including the Reserve Bank and the reality is there have been record low capitalisation rates for commercial property but by the same token yields on commercial property haven’t fallen nearly as much as bond yields and we are seeing record low bond yields with low interest rates,” Mr Oliver said.

“I don’t get the impression we are seeing any of the bubbly conditions we saw, say, in the Melbourne and Sydney residential property markets, the gains over time have been somewhat more constrained, and nor do I get the impression we are seeing anything like the commercial property bubble we saw in relation to office property in the late 1980s.”

Buyers more cautious

He said investors remained scarred from the fallout from the GFC.

“There was a sharp decline in property yields in 2007 and then we had the GFC and cap rates were pushed higher and commercial property values fell for a couple of years, so buyers have been a lot more cautious this time around, which is why we haven’t seen those bubbly conditions.”

Property economist at BIS Oxford Economics Lee Walker said with bond rates now down to babout 1.3 per cent, he forecasts cap rate compression of another 10 to 20 basis points across the major office and industrial markets and then to remain steady until 2022.

“We would expect there to be a significant weight of money continuing to flow into office and industrial sectors off the back of the low 10-year bond rates because Australia is looking very attractive on the yield front compared to other Asia-Pacific markets,” Mr Walker said.

“We don’t see any reason for a property bubble in the near term given the outlook for rental growth.”

Article appeared in The Australian Financial Review on 3 July 2019.
Article written by Ingrid Fuary-Wagner.

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