Australia Property
Remember Cap Rate
Compression?
Time to reflect cap rate compression in NAVs. We
believe that with easing credit markets, a largely
recapitalised sector and an improving macro and
transactional environment, cap rates will peak in the
next six months and are likely to be down YoY by June
2010. The rental cycle may take a little longer to trough,
but we expect the market and (more importantly) buyers
to look through this.
Office the main beneficiary of the NTA recovery.
Office cap rates have gone up the most in the last two
years and look high versus the 20-year average. More
importantly, with effective rents in Sydney and
Melbourne close to trough levels, we see at least
15-20% upside to asset values in the next 2-3 years.
We have increased our NAVs by 7-31%... Our price
targets assume 40bps average cap rate compression for
office, 20-30bps for industrial and stable cap rates for
retail, and have reflected differences in cap rate
expansion during the downturn.
…and removed the discount. Our price targets are
now in line with our NAVs as we are so close to the
trough in asset values. However, given the early nature
of our cap rate call, we believe it is too early to apply a
premium to NAVs at this time.
Upgraded sector view to In-Line. While the 2-3%
annual EPS growth is well below expectations for the
wider market, the combination of 6-7% dividend yield,
potential for a 20-30% recovery in NTAs and sector
consolidation should limit underperformance.
Top and Bottom Picks. DXS is our top pick in the
sector, offering a 20-30% valuation discount and great
exposure to an office recovery. CFX offers the best
medium term growth profile from base rental growth and
four developments opening in the near term. After a
strong run, MGR and SGP look expensive on implied
valuations for the residential development business of
15x and 21x peak earnings and 35-38% premiums to
book value for MGR and SGP, respectively.