A-REITs ripe for alpha generation as performance divergence widens

A-REIT securities are ripe for generating alpha as the asset class exhibits a wide divergence in performance among different stocks, according to a listed property investment specialist.
While the A-REIT index as a whole has rallied strongly, underlying performance across listed property is not uniform, according to Amy Pham, Portfolio Manager for the Pengana High Conviction Property Securities Fund, who recently hosted an investment and market update for Fund investors. “Interest rates stabilising and eventually coming down will benefit A-REITs.

“But the divergence in performance is currently the biggest I’ve seen, and is set to reward active management.

“There’s plenty of alpha to be generated over the medium-to-long-term while major sectors such as office continue to deal with structural change, and alternatives continue to grow.”

Ms Pham said much of the short-term focus will be on interest rates given listed property is known to move ahead of rate cuts. “We’re not economists, but whenever the RBA cuts interest rates A-REITs tend to outperform.

“The data shows A-REITs tend to move early, outperforming on average four months before the first interest rate cut.”

Structural changes in office property should continue to drive a divergence in performance, but office investors could take some heart in retail property’s recent trajectory. “There’s a sense that we’re closer to the bottom regarding office, but some structural shifts will take a little while to play out.

“More data is showing a structural shift to higher quality space. But vacancy rates are still high and it will take time to see the real earnings growth come back – and this is crucial because the recovery in office will need to be earnings led, not valuations led.

“Retail went through its own structural readjustment with online shopping, and many retail REITs are now doing well.

“Interest rates are obviously having some impact but recent reporting showed retail had been more resilient than the market anticipated.”

Ms Pham said several factors, including lower debt levels, have helped A-REITs to outperform global listed property over the last 12 months. “The average gearing levels for A-REIT stocks is 27%, which is modest globally and is influential considering interest rate settings.

“A-REITs performance also reflects the higher dividends paid when compared to G-REITs. We also see A-REITs have a higher exposure to A-Grade office property, while G-REITs are more exposed to B and C-Grade office property.”

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