I do not have to explain what a disaster the property sector has been over the last half decade. Given its decades of outperformance before this, it was a long overdue period of correction.
Intuitively, though, property as an asset class is not going away.
These days shopping centres are getting more packed, offices are filling up (though not to the same extent as they did pre-Covid), people keep living in homes and apartments, and businesses need warehouse and factories to operate. Thus, surely, at some point there is value to be found in the listed property sector?
An investor with a reasonable appetite for risk and a longer-term view may start digging around this sector and find the following:
From the above snapshot of the JSE-listed property sector, two interesting statistics emerge:
- Discount to book value: The sector is trading at an average discount to its book value of around 20% – and while I am sceptical of the ‘fairly valued’ book values of these real estate investment trusts (Reits), this does offer some degree of a margin of safety.
- Higher average yield than our government’s 10-year bond: It is trading on an average historical dividend yield of about 10% versus a South African 10-year government bond’s yield of 9.7%.
The difference between the sector and a 10-year government bond being that:
- In 10 years’ time the bond won’t exist anymore but the property will;
- The bond yield cannot adjust to inflatio but property rentals can; and
- A held-to-maturity bond will not see any capital growth, but property can.
Furthermore, if you rank the domestic Reits based on dividend yield, Octodec and Spear are two of the three highest yielders.
Why? Both are well-run with well-regarded management teams, low gearing – Octodec’s loan-to-value is 39.7% and Spear’s is 38.7%; anything lower than 40% is considered comfortable – and have portfolios that are diversified across a range of property classes (see below).
Why are these two particular Reits so cheap?
It becomes obvious once you have a look at the regional split of their respective property portfolios:
One of the great things about buying listed property is that it gives the average investor exposure to widely-diversified property portfolios. Yet Octodec and Spear Reit are both clearly regionally concentrated. While there are management arguments for regional concentration, I believe this is the main reason they attract the discounts they do in the market.
Yet we as investors can use this to our advantage.
While the market is individually discounting each Reit due to its regional concentration, investors can buy a little bit of both in their portfolio. In this way, investors are locking in the discounts and high yields that these two Reits offer but – at a portfolio level – investors have actually diversified out the regional concentration that created this discount in the first place.
The downside here is that both are South African property portfolios, and thus you still have sovereign risk. Plus both are relatively smaller Reits, and thus there is some liquidity risk in the market. Nothing is perfect.
Listen to Suren Naidoo’s interview with Anton de Goede of Coronation Fund Managers in this episode of The Property Pod (or read the highlights here):
You can also listen to this podcast on iono.fm here.
* Portfolios managed by Keith McLachlan and Integral Asset Management may hold some investments in Stor-Age, Emira, Octodec and Spear Reit.
Keith McLachlan is investment officer at Integral Asset Management.