Ian Cowie considers whether the property recovery has further to go.
Everybody knows how online shopping is replacing the high street and why working from home (WFH) means office life will never be the same again. But some of the best investments of all involve questioning what “everybody knows” in a bid to identify bargains that might be overlooked and underpriced.
For example, online shopping and WFH are obviously unhelpful trends for traditional ‘bricks and mortar’ retailers and office real estate. But, to paraphrase the author Mark Twain, reports of the death of both commercial property sub-sectors could prove greatly exaggerated.
Professional asset allocation across some investment companies’ commercial property portfolios is delivering growth and income to investors who dare to go against financial fashion. The Association of Investment Companies (AIC) ‘Property - UK Commercial’ sector has delivered total returns of 31 per cent over the last year, including an average dividend yield of 4.9 per cent.
Both comfortably exceed the industry-wide averages for all investment companies, which currently stand at 24 per cent and 2.8 per cent respectively, according to independent statisticians Morningstar. So, it is worth taking a closer look at what is happening in commercial property investment companies.
Standard Life Investments Property Income (stock market ticker: SLI) is one of the UK sector leaders over the last year up an impressive 51 per cent. That performance is all the more remarkable because the shares remain priced at a discount of more than 17 per cent to their net asset value (NAV).
Such a large, double-digit discount shows how unfashionable this sector continues to be - and suggests there is scope for further recovery in future. Looking under the bonnet, ‘industrial property’ - or factories, rather than offices and shops - accounts for half of SLI’s assets. These industrial properties should remain largely unaffected by adverse trends in online retail or WFH. Here and now, SLI yields dividend income of 4.9 per cent which, although not guaranteed, gives shareholders a substantial reason to hang on.
BMO Commercial Property (BCPT) and Schroder Real Estate (SREI) are also performing strongly with total returns of just under 51 per cent and 55 per cent respectively. They also trade at large discounts to their NAVs of 21 per cent and 20 per cent respectively.
Income-seekers may note that BCPT currently yields 4.4 per cent, while SREI pays 4.6 per cent. Both show ‘offices’ as their biggest sub-sector, accounting for more than 40 per cent of total portfolio values, but assets are allocated over a diversified range of different types of commercial property.
For example, while SREI’s fact sheet shows ‘retail’ comprising 19.7 per cent of its real estate value, a footnote adds: “Of which 11.3 per cent is retail warehouse, 4.8 per cent has retail as part of mixed use assets and 3.6 per cent has retail as sole use.”
So, less than 4 per cent of SREI’s assets are invested in conventional shops or shopping malls and most of its ‘retail’ assets are actually warehouses. This kind of commercial property should gain from the growth of internet shopping because all of the goods you buy online have to be stored somewhere before they are delivered to your door.
That was the reason I invested in Aberdeen Standard European Logistics Income (ASLI) which owns a portfolio of warehouses across continental Europe. A recent rights issue, conferring the right to buy one new share at a discounted price for every four shares already held, has knocked ASLI’s one-year total return back to just under 10 per cent but it continues to yield 4.6 per cent dividend income.
The fact remains that I could have done much better within the AIC ‘Property - Europe’ sector by investing in less modish but more rewarding investment companies, such as Schroder European Real Estate (SERE) or Phoenix Spree Deutschland (PSDL). SERE leads its sector with total returns of 58 per cent over the last year, including a 4.9 per cent dividend yield but remains priced at a 16 per cent discount to NAV. PSDL returned 22 per cent, yields 1.7 per cent and is priced at a discount of 15 per cent.
It is important to remember that the past is not necessarily a guide to the future. Investors should also beware that different views will emerge from different periods in the past.
For example, there is an element of recovery in one-year performance statistics, as the ‘Property - UK Commercial’ sector bounced back from low points at the start of the coronavirus crisis. That’s why this sector’s average one-year performance is higher than its five-year average of less than 10 per cent.
Even so, optimists may take the view that the recovery in commercial property valuations already seen has further to run. Others might consider that double-digit discounts to NAV could mean this sector’s problems are already reflected in share prices. Either way, inflation-busting income may pay investors to be patient.
