Commercial property still hot as DIY investors pile into funds

In the scheme of total investor inflows, the commercial office sector is very much the poor cousin of the $2 trillion residential property market dominated by housing and apartments.

But savvy retail investors, including self-managed super fund trustees, are behind increasingly strong capital inflows into unlisted commercial property syndicates and unitised office property funds.

What’s the big attraction? It’s mainly about yield and risk, with investors able to tap into relatively secure and stable income streams that in some cases are ­delivering pre-tax returns above 6.5 per cent. Adding on capital growth of around 3-4 per cent, linked to incremental tenant rental increases, some investors are achieving annual total returns above 10 per cent.

Of course, that’s not a given. To get the best returns, and effectively reduce risk, investors need exposure in the right locations. That means buying into A-grade commercial real estate in areas experiencing strong growth, and preferably into properties leased to blue-chip tenants locked into long-term lease contracts. But buying a building isn’t an option, for most at least.

Commercial office funds which own office buildings are ­essentially the window for smaller investors, with an increasing number of financial platform providers offering easy and low-cost access into unlisted funds. Australian Taxation Office data shows self-managed super funds alone hold more than $64 billion in unlisted assets, excluding residential real estate.

That number is set to grow further during 2017 as more commercial property opportunities reach the market. In fact, it was a lack of opportunity last year that curtailed investment inflows.

Data from global commercial office managers JLL shows Australian office investment transaction volumes totalled $14.46bn in 2016, compared with about $18bn in both 2014 and 2015. Investment inflows this year are likely to edge higher, with fund managers investing in new office buildings, primarily in Melbourne and Sydney.

Steven Bennett, head of direct at commercial property owner and fund manager Charter Hall, says there are a number of key ­ingredients that investors should be taking into account, including the quality of the assets on offer, the weighted average lease ­expiry, the management’s track record, and returns.

“We know SMSFs and our ­investor base invests into property because of the income returns you can get. So we’re very focused on delivering that security of income for our client base,” Bennett says.

SMSFs roll in

The self-managed super fund segment remains a huge market for unlisted office funds, and that’s currently creating a flurry of ­activity behind the scenes as fund trustees rejig their commercial property positions to comply with the federal government’s ­incoming $1.6 million pension ­assets cap on July 1.

The new rules mean that those in pension mode must open and transfer back to a superannuation accumulation account (and pay 15 per cent tax on all future earnings in that ­account) any assets above $1.6m.

For those holding more liquid assets such as shares, the issue is relatively straightforward. But for those in pension mode, holding lumpy, illiquid assets such as real property, which are valued above $1.6m, it’s a bigger exercise. They must transfer back the whole property into an accumulation account.

On the other hand, Bennett points out that those with commercial property holdings in an unlisted unit trust can simply do a partial transfer of units from one account to the other, and it’s here that much of the action is taking place.

JLL’s head of research, Australia, Andrew Ballantyne, says he’s seeing strong activity in investor inflows into commercial property, with Melbourne and Sydney definitely leading the charge, but the Brisbane and Canberra markets also showing good signs of recovery.

“Sydney and Melbourne ­remain firm, but people are surprised at how quickly the Brisbane market has recovered, and Canberra is seeing good rental growth,” Ballantyne says. He adds that the investor flows into commercial office property are a reflection of the risks and returns in other asset classes.

“People are getting next to nothing on cash returns. So they’re moving up the risk curve a little bit, but not by too much. The attraction for income investors is that leases are contracts. With a seven year lease you know what cash flow is being generated; there’s a higher degree of confidence.”

Tony Kaye is editor of www.eurekareport.com.au which is published by InvestSmart.