A difficult May was followed by a terrible June for real estate equities. Investors decided that inflation hadn’t peaked (a hope in May) and that central banks’ policy response would be more aggressive than previously expected as they seek to bring inflation under control. The result was a rapid widening in bond spreads (the difference in yields between different bonds), a steepening of the front end of the yield curve (a widening of the spread between short and long-term bonds) and the pricing-in of a consumer driven recession as mortgage costs rise despite high levels of employment. Our benchmark, FTSE EPRA/NAREIT Developed Europe (total returns, in sterling terms) fell -14.8% and the net asset value fell -15.0%. The bright spot was the share price, which was down ‘only’ -7.2%.
Investors punished property companies that have high loan-to-value ratios, with more bond debt than bank debt (fear of refinancing cost escalation) and those with short term maturity or floating rates. Sweden, once again, proved the worst culprit on all these metrics. In the case of SBB (-37%), the waters were further muddied by accusations of poor financial disclosure. The overnight issuance of a one-year bond, at a coupon much higher than expected, drove investors from the company. All Swedish companies had a poor month, with Balder (-30.5%) and Castellum (-30.7%) both suffering from overstretched balance sheets. At the same time, Sagax (-29.1%) suffered as its premium rating coming under pressure.
Those viewed as ‘bond proxies’, particularly the lowest yielding assets such as residential, continued to come under pressure. While the revenue and occupancy levels of these residential companies will no doubt remain resilient, the operating costs (energy and property management) will rise, as will the cost of debt. The largest listed property company in Europe is Vonovia, the German residential giant, which fell -17.1%. Those with the most debt were hit hardest – Aroundtown fell -30.5%, for example. Companies where debt was combined with immediate asset price falls, such as TAG (-35.4%), which saw the price of its Polish portfolio adjust quickly following the invasion of Ukraine, were also hit hard. The Trust’s largest residential overweight is to Phoenix Spree (Berlin only), which fell -9.7% over the month.
Businesses that were perceived to be able to capture inflationary pressures through rent increases performed best with self-storage names leading the way (Big Yellow fell only -2.6% and Safestore fell -6.8% during the month) and student accommodation (Unite -8.1%) also performing well. Meanwhile, companies with long income and high levels of fixed debt, such as the healthcare business PHP (-8.0%), fell.
Retail landlords, particularly in Europe, were having a (relatively) good year until this month. They benefited from the view that the very high implied earnings yield (earnings per share divided by the share price) at which these companies were trading was a good value defence. However, with the increased likelihood of a recession across all of Europe, consumer facing businesses were hit hard; Unibail fell -25.7% and Klepierre declined -13.5%.
Shaftesbury and Capco finally announced the terms of their all-share merger, which was met with some disappointment over the respective ownership by each group of shareholders. While there are some merger synergies and footfall in the West End is clearly improving, the very low yield for this sub-sector means that debt finance is no longer accretive.
Within the Trust’s physical portfolio, we successfully completed the separation of the residential and commercial elements of our largest asset (the Colonnades in Bayswater). The newly created residential long lease includes all 242 flats where we have, over the last 18 years, extended many of these occupational leases, raising over £11m in premiums. The modest sale price of this long leasehold interest (around £5m) reflects the small number of remaining un-extended leases. This leaves us with a pure commercial asset anchored by a long lease to Waitrose (75% of the income).
The Trust’s AGM will be held on Tuesday 26th July 2022 at 2.30pm at The Royal Automobile Club, London SW1Y 5HS, we are aware that shareholders may not wish to attend in person and the arrangements for the live webcast of the formal AGM, manager’s presentation and questions and answers remain in place. The webcast will not enable Shareholders to participate in the Meeting or vote, however, shareholders are invited to submit questions to our usual email address (Enquiries@trproperty.co.uk) by 12.00 noon on 25th July 2022. Questions of a very similar nature may be grouped together to ensure the orderly running of the AGM. The link to the live webcast will shortly be published on our website
Discrete rolling annual performance as at 31.10.2022 (%):
not be considered a guide to future performance. All fund performance data is net of all fees