COMMENT: Accessing commercial property assets

With interest rates hitting new lows and income focused investors feverishly searching for opportunities, commercial property is increasingly on the radar.

While it would be nice to be wealthy enough to buy an office building or industrial warehouse outright, for the vast bulk of us this is unattainable.

However, the listed property sector provides an opportunity to own some of the country’s highest quality property assets for a very small outlay.

There are several listed property vehicles (LPVs) on the local sharemarket. They all qualify as portfolio investment entities (PIEs), which means tax efficiencies for investors.

Dividends are paid either quarterly or biannually, and this PIE status means there is no additional tax to pay on these, regardless of one’s personal income tax rate.

Based on current share prices, the gross dividend yield for someone on a 33% tax rate would be about 6.0%. The average total return over the last decade from the major LPVs is a more than reasonable 13.4 per annum, which reflects the dividend payments as well as capital growth.

Most are buy-and-hold investors, so their income is largely derived from rents collected from tenants. Rental growth in the underlying assets should lead to increased rental income and steadily growing dividends over time.

The underlying property portfolios range in size, with the largest being valued at more than $3 billion. LPVs generally use an element of debt funding, about 30 per cent on average. The portfolios are revalued on an annual basis, although capital gains are not distributed to investors.

In most cases, LPVs trade close to the value of the underlying assets so any increase or fall in the value of the portfolio is usually reflected in the trading prices of the securities.

Some trade at prices above the value of assets, particularly if there is a belief that valuations are out of date and prices have moved since they were last reviewed. Generally, those with a superior track record, higher-quality assets and better growth prospects trade at higher prices, and lower dividend yields.

The benefits of direct property investment are well understood by New Zealanders. Using borrowed money to supercharge returns, adding value through upgrades or by introducing better tenants and having full control are a few of these.

But there are also benefits to investing in listed property, especially for those who have small amounts of capital or lack the expertise (or the time) to be a commercial landlord.

Firstly, listed property makes it much easier to reduce the risk profile of a property investment portfolio.

Rather than being exposed to one, two or even ten buildings and their tenants, investors in listed property are spreading their exposure over billions of dollars’ worth of property, which dramatically reduces risk as the number of tenants and buildings is much higher.

The ability to access assets of a much higher calibre is also important. Few investors would be able to gain an exposure to anything like the Vero Centre office building, the impressive Highbrook Business Park, or the new Commercial Bay precinct.

Listed property also has very high levels of liquidity. Investors can buy or sell some or all of their holdings quickly and easily. Liquidity is often underestimated, but if circumstances change it can be vital to be able to exit an investment in a timely manner at a fair price.

These are some of the key areas that separate the listed property sector from unlisted funds and syndicates. These entities also involve groups of investors buying property assets jointly.

However, some have high minimum investment requirements and because they are unlisted it can be difficult to sell quickly or efficiently, especially during challenging markets.

In addition, listed property is under intense scrutiny from professional fund managers and analysts, which means improved governance and much greater transparency.

Some syndicates or unlisted funds have worked well and have competent managers, although many don’t have the firepower to invest in the best quality assets, which forces them to target smaller properties in either regional towns or fringe locations.

Many need to offer higher yields to compensate for smaller, lower quality assets, which means debt levels tend to be higher (as much as 40% or more in some cases) to help boost investor income.

Commercial property is an important investment class that provides a reliable income stream backed by tangible assets. Listed property can offer excellent diversification and liquidity, making it an appealing proposition that can be accessed by even the smallest of investors.