The markets in which we operate
Over the past 10 years the South African listed property sector has grown almost six-fold to R600 billion and has often been the annual top performing asset class locally.
However, the sector has seen a sharp downward correction over the last six months, mainly due to a steep decline in listed property prices driven by valuation concerns related to specific companies which affected the sector as a whole, and a deterioration of general economic conditions in South Africa. Consumer spending has declined given a number of general macro- and specific factors including the recent VAT hike, spike in fuel prices and increase in property rates. As a result, the SAPY’s total return for the first six months of 2018 was (21,4%), underperforming bonds (3,9%), cash (3,5%) and equities (1,7%) for the first time in many years.
The Rand has been extremely volatile in 2018 and has weakened from a strong position in February 2018 to recent lows. In June 2018, driven by the ongoing trade dispute between the US and other countries, Moody’s raising concerns around political risks in South Africa and the widening current account deficit, the Rand weakened by 7,8% against the US Dollar and 6,8% against the Euro. In June 2018 the South African 10-year bond increased by 29 basis points to 9,0%, which put further pressure on listed property valuations at 30 June.
In addition, three new relevant indices have been introduced over and above the SAPY and the JSE Capped Property Index (PCAP), namely the Trade Property Index (J800), All Property Index (J803) and SA REIT Index. The intention was to provide a broader range of indices for benchmarking and an improved representation of JSE property companies. However, the consequent rebalancing of portfolios has resulted in some short-term price volatility.
Of the R6,1 billion raised by the sector in the calendar year to date, one-third was generated by dividend reinvestment and another 13% was raised in off-market transactions, which means that very little equity was being offered to and taken up by the market. This “equity raise failure” is far more a factor of weak ratings than of the lack of need for capital.
From a vacancies perspective, the financial difficulties of the Edcon Group had a sector-wide impact. Their stores have been losing increasing amounts of market share to international retailers such as H&M and Zara. The group’s consequent revision of its store composition including the merging of Boardmans into Edgars, has seen vacancies at affected malls creep up.
Locally, there is an oversupply of property space in most regions, especially Gauteng. This, together with waning demand is making it increasingly difficult to achieve dividend growth. The fundamentals in the sector will only improve once there is a substantial drop in the number of speculative developments. For the near future, our focus will therefore likely be on tenant retention rather than on developments. However, success in this regard and in the achievement of rental growth will largely depend on the country achieving sustainable GDP growth and even then, it will take time before this will result in reasonable rental growth. Most economists expect GDP growth of only 1,2% in 2018 and 1,9% in 2019.
Given this framework locally, international investments remain a compelling option for the listed property sector. Currently over 50% of SA listed property is exposed to offshore markets and this diversification provides an alternative source of distribution growth for the sector. Offshore earnings have grown from about 0% in 2008 to almost 40% in recent years.
Quality large shopping centres that are located in nodes benefiting from high-density residential and commercial developments and that are able to connect with their communities by providing for their social needs, will remain the most defensive property investments in South Africa.
The increase in investment activity by South African property funds in central and eastern European markets continued in the year under review, as the region provides attractive investment alternatives to South Africa.
While valuations in the region are clearly attractive, it is critical to ensure that potential volatility is reflected in prices. The region has continued to benefit from strong economic growth, supported by a greater allocation of EU funds for investments across the Balkans, resilient export demand and growing tourism.
South-Eastern European retail has done well as the respective markets find an equilibrium, with supply levels catching up to a growing consumer base.
Household spending benefited from a strong labour market and public sector wage increases, although higher inflation is expected to reduce some of the now available disposal income. The attraction of foreign direct investment and EU-funded capital spend, with low interest rates, will support further economic growth.
Economic activity should remain strong in 2018, benefiting from a dynamic tourism industry which is a key source of employment and export revenues, as well as robust consumer spending supported by falling unemployment.
Although annual economic growth slowed moderately due to lower investment and government consumption, private consumption and retail sales grew strongly.
Meanwhile, in mid-June Macedonia and Greece reached a provisional agreement over a name dispute which has dragged on for decades and should pave the way for Macedonia’s EU accession.
The economy is expected to record its best performance in a decade this year, driven by robust domestic demand. A more flexible monetary policy, economic reforms aimed at bolstering the private sector, improving fiscal policies and reviving infrastructure investment, should continue to boost Serbia’s growth potential.
Public and private consumption slowed down recently, but a strong increase in fixed investments, up by almost a third year on year, boosted the economy. In addition, export growth outpaced imports and reached the highest level in years.
Hystead will grow this portfolio to the extent that further opportunities become available at prices that meet our investment criteria.
Sub-Saharan Africa (excluding SA) (SSA)
SSA’s economy is showing signs of recovery after a tough three-year period, with 2018 Q1 GDP growth of 3,0% slightly better than the 2,7% increase in Q4 2017. The consensus forecast (source: focus-economics.com) for the SSA GDP growth for 2018 is 3,5%, supported by higher commodity prices and solid domestic demand.
However, several risks to the positive outlook remain. Many economies are burdened by high debt, making them especially vulnerable to fluctuations in the global financial markets, while a sharp slowdown in China’s growth momentum could dramatically affect economic activity and demand for mineral resources in the region. Despite this, the current outlook for GDP growth in 2019 is to accelerate to 3,7%.
The Ghanaian economy continued its strong performance in H1 2018, which started in 2017 when GDP growth reached a five-year high. Easing inflationary pressures and a softening monetary policy stance are likely to fuel domestic demand growth, supported by robust private consumption and healthy investment activity.
The recovery in the Nigerian economy struggled to gain momentum at the start of 2018, after having hit a two-year high in Q4 2017. However, a stronger expansion in the oil sector helped offset the underperforming non-oil economy. More recent economic data suggests that the economy is regaining some lost momentum, benefiting from the higher oil prices and improved foreign exchange rate liquidity. GDP growth is set to increase 2,5% in 2018, which is down a notch from last year.
While the Zambian economy remains resilient, various challenges are becoming apparent, most notably a reduction in exports, rising external debt and a reduction in foreign reserves. On the positive side, private sector activity increased recently, powered by a record surge in new business.
Even though SSA does provide long-term investment prospects, Hyprop will continue to seek investment opportunities in regions where it can achieve better returns, for example in South-Eastern Europe, while at the same time reducing its exposure to SSA.