A stellar year for REITs – will this continue into 2022?

Amy Pham

Pengana Capital Group

With the clock ticking over to 2022, the world will have endured two years of COVID-19. But despite the well-documented challenges, 2021 was a successful year for Australian real estate investment trusts.

The rebound, particularly following the success of the vaccines, demonstrates the unique nature of the pandemic for real estate and the resilience of the REIT sector.

Our fund’s outperformance in 2021 was driven by the investment themes of funds management (CHC +43%, CNI +38%), logistics (GMG +42%, CIP +42%), and storage (NSR +45%), which is consistent with the prior year’s successful themes.

Retail REITs (URW -6.5%, BWP -2%, VCX +9.8%) and diversified REITs (SGP +7.2%, CMW +7.9%) underperformed with structural shifts challenging these stocks, including online retailing and working from home.

Macroeconomic drivers remain strong for REITs with GDP growth of above 4% coupled with sound corporate balance sheets (average gearing for REITs is 27%) and household savings at an all-time high of 20%.

However, three obstacles challenge the outlook over the near term, including ongoing high levels of COVID-19 infections, production and supply chain bottlenecks, and an elevated inflation rate.

The onset of the new Omicron variant will most likely place some caution on consumer sentiment and employees going back to the office.

While CPI remains high at 2.8%, driven by rising food and energy prices, sky-high shipping costs and persistent supply shortages will keep inflation around the top end of the RBA’s target band. The question is – will the RBA raise rates to curb inflation and, if so, how will REITs perform in this environment?

Firstly, we have adopted a conservatively high risk-free rate in our valuation of REITs, providing us with a buffer in the event of further rate rises.

Secondly, it has been shown that during periods of moderate inflation, REITs tend to outperform the broader market. This is because rents are not as sticky as other prices. Long-term leases typically have inflation protection built-in, and shorter-term leases are based on current price levels.

We are of the view that inflation is transitory and will subside as the pandemic is contained. With wage growth only approaching the 3% watermark, we don’t expect inflation to be at the high levels seen in the 1970s and early 1980s.

To put things into perspective, interest rates are looking to rise but from a very low base. In this environment, we continue to see support for the REIT sector delivering a sustainable forecast income yield of 4%.

We continue to favour REITs with positive free cash flow and a strong balance sheet coupled with active managers who can add value through development and capital management. 2022 will be a year of continued structural shifts, favouring the growth of the alternative sectors and increased M&A activities as REITs look to grow and diversify earnings.

Learn more

More information about Amy's fund can be found here. Watch the fund's latest webinar here, or contact us to learn more about the Pengana High Conviction Property Securities Fund.

Pengana Capital Ltd (ABN 30 103 800 568, Australian financial services license number 226566) is the issuer of units in the Pengana High Conviction Property Securities Fund (ARSN 639 011 180) (the “Fund”). A product disclosure statement for the Fund is available and can be obtained from our distribution team. A person should obtain a copy of the product disclosure statement and should consider the product disclosure statement carefully before deciding whether to acquire, or to continue to hold, or making any other decision in respect of, the units in the Fund. This report was prepared by Pengana Capital Ltd and does not contain any investment recommendation or investment advice. This report has been prepared without taking account of any person’s objectives, financial situation or needs. Therefore, before acting on any information contained within this report a person should consider the appropriateness of the information, having regard to their objectives, financial situation and needs. Neither Pengana Capital Ltd nor its related entities, directors or officers guarantees the performance of, or the repayment of capital or income invested in, the Fund.

Amy Pham
Fund Manager - Pengana High Conviction Property Securities Fund
Pengana Capital Group

Amy is portfolio manager of the Pengana High Conviction Property Securities Fund, and has over 20 years of property funds management experience. Previously, Amy has worked at Charter Hall/Folkestone for 6 years, managing a high conviction...

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