COVID-19 and the return to ‘normal’ in property industry
Author : Scott Keck, Chairman, Charter Keck Cramer
The Quintessential | Edition 2 : June 2021
Growth of “on-line” retailing, acceptance of working remotely from the office and the rising popularity of non-metropolitan seaside and regional townships, were all strengthening trends for some years before COVID-19. Even the current rise in inner urban residential markets, is a direct reflection of demographic change responding to historically low interest rates.
In the commercial, retail, industrial property investment markets, the rise in values has also been directly attributable to very low interest rates and thus whilst most of these various market changes and conditions have been pronounced during the last 18 months, the pandemic itself has really only strengthened focus into some sectors, or caused momentary interruption rather than being a permanent “game changer”.
Indeed, in the property markets generally, home ownership, investment, and development, have all returned to very high levels of demand. Over the next 18 months, as most sectors return to pre-COVID-19 normal conditions, it will be apparent that little has changed. Despite the misfortune of some, the interruption of the pandemic has given impetus to business rationalisation, more considered investment strategies and the realisation that Australia, particularly in its major metropolitan areas, remains a safe haven for real estate enterprise.
I believe that most things as we knew them prior to the pandemic will return, both opportunities but also challenges. At the broader economic level, low wage growth, high underemployment, low investment, and thus poor demand has led to low productivity and low inflation which are stalling the Australian economy. As the “fiscal morphine” subsides, the pain of these economic challenges will return, compounded by the responsibility of servicing the much higher debt levels now taken on by government to defend against a severe pandemic induced recession.
The most direct way to improve this outlook is to increase productivity through significant population growth relying on a return to increased levels of immigration to strengthen the Australian income earning/taxpaying workforce. For this reason, a return to high levels of immigration, the return of foreign students, and inbound international tourism are crucial, and can be expected as soon as vaccine protocols allow, but the slow roll-out of which, has probably delayed a return of this international impetus by 12 months until mid-2023. Everyone just has to hang on as best as they can in the interim.
To some extent, beyond our control, the current stoush with China, whilst unfortunate, should pass. Given the economic and longer term social imperatives, Australia and China’s futures are in many respects interwound and as the current adversities pass, they will seem to be little more than minor indifferences in the course of an otherwise long and meaningful association. Australia’s longer term destiny over the balance of this century will be to continue along a path of “asianisation”, including significant contribution from China and it is in the common interests of all that the economic and geo-political conditions settle in the region.
In Australia, particularly in the major capitals, the full spectrum of residential demand, whether for established properties or newly developed homes, apartments and townhouses, is significantly driven by demographic change within the existing population, and not dependent upon immigration and foreign students. These traditional, mainly inner urban markets, will continue to experience strong conditions.
Whilst it is correct that some market segments, particularly investment apartments and urban fringe housing will rely more upon immigration induced and foreign student demand, the pandemic interruption has nonetheless undermined developer confidence more significantly than is analytically warranted. Thus development pipelines have slowed more than they need, the consequence of which will be to tip the residential markets generally into over demand and under supply progressively throughout the next few years.
Traditional retail property has now for some years been challenged by the alternative rise in “on-line” alternatives, but can be expected to be resilient as it innovates and transforms to serve a broader community need. In perspective, most retail property is very centrally located to a wide community catchment, is appropriately zoned significant sized land holdings, is well developed, and versatile. The only challenge is really tenancy mix, and thus there is a continuing relevance for retail property if managed and adapted to the needs of changing community demand.
The office sector, currently digesting the implications of remote workers, will experience some “tenancy churn”, but a stabilisation at acceptable occupancy levels in the better quality grade buildings. Many organisations may even require larger tenancy footprints to accommodate the new spatial requirements as their staff return. To the extent that vacancies do increase, it will drip through to the lower grade properties which depending on their location and physical condition will have opportunity to transform or ultimately be redeveloped.
The industrial sector has performed well over the past two years, but again not to do with the pandemic, but rather reflecting the attraction of the generally long lease terms in this sector, low obsolescence, and the demand for logistics accommodation and distribution centres. At the relatively higher levels of value, predominantly an institutional market, conditions are likely to remain strong as business rationalisation and new strategies reverberate in an ever evolving technical age.
In the medium term, the possible risks for some parties, would include the relatively high value Australian dollar for international investors that would risk and Australian dollar devaluation. Also for all participants, a faster than expected return to higher than acceptable inflation rates which leading to higher commercial rates, has implication for debt cost, investment hurdle rates (IRR), and the possible easing of yields. There is also the risk of State by State legislation which may increase property related taxes in an effort to reduce the debt recently incurred in anti-pandemic initiatives. Most of these changes will be gradual, staged, and importantly, able to be absorbed in any reasonably considered investment or development strategy, or alternatively passed on to the wider community
- Australia needs to grow by substantially increasing productivity. Once this is achieved through growing the population through immigration, the real estate markets will respond predictably and positively
- National immunisation against COVID-19 is so crucial yet dragging terribly. We need a more supportive public sentiment and faster roll-out.
- The national economic challenges of high unemployment and low investment, wages and inflation will return after the current economic stimuli fade
- The prospect of a return to population growth together with the current levels of real estate affordability (combined with current levels of relatively low stock), means that Melbourne quite possibly may be the best city in the world in which to invest in and develop real estate in most categories.