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Jun 26, 2007:
A market commentator suggests that property has characteristics that are similar to equities, and that real estate in fact straddles the other two equity classes
Listed property has traditionally been compared to the bond market as an investment, given the income stream that it generates. However, several market commentators have recently suggested that property has characteristics that are also similar to equities, and that real estate in fact straddles the other two equity classes. In some instances the debate has tended to focus on near term performance.
A new study has been conducted by Adrian Clayton, CEO of Alphen Asset Management, which looks at industry returns over the past 20 years and the past 5 years.
“We were taught that property is an income generating asset that usually has less volatility than the equity market and will produce bond-like returns over time. However, property rentals tend to rise with inflation and thus property has a growth component which is not the same as the bond market,” notes Clayton.
With scant long-term data for listed property, Clayton took Sycom (a Property Unit Trust - PUT) and Grayprop, now called Fountainhead Property Trust, (also a Property Unit Trust – PUT) as proxy stocks (these being the two longest and most established listed property companies) and added back their distributions to gauge what return/risk profile the stocks have had on a total return basis. Over the five-year period, the Property Index was also included.
The risk and return for each of the asset classes are shown in the graphs below:
Clayton comments that:
“From the above, the following becomes patently clear:
Over the past 20 years, as inflation has declined in South Africa, the returns from property investments have been staggeringly high, higher in fact than in the equity market.
Property has not behaved like bonds. Instead the risk profile has been more in line with equities – a volatile asset class where rewards have handsomely accrued to those stomaching the risk. Over the most recent 5 years, property’s annualised returns have been even more impressive than the annualised returns over the entire 20-year period and have again outperformed equities but in this case, with slightly less risk.”
It is interesting that even over the long term (20 years), from a risk and return perspective, property’s characteristics have been closer to those of equities, whereas the general thinking has always been that property is a proxy for bonds (or, indeed, the other way around – that bonds are a proxy for property)
Craig Hallowes, spokesperson for the Association of Property Unit Trusts (APUT), notes that “These figures show that listed property investments can show levels of return similar to equities, but with a very reasonable income component. One must always view listed property as a long-term investment option and we would encourage investors to adopt a long-term approach to investing in PUTs.”
Clayton warns that the recent returns of listed property are unlikely to be sustainable and cautions that “returns seen over the past 5 years could largely have been driven by capital re-pricing after the stocks were grossly undervalued previously. It is thus very likely that investors will become more aware of the yield in these stocks looking forward and less concerned with capital returns. If this is the case, property might start to behave more in line with the bond-proxy theories we were taught at university. This would imply that volatility may reduce over time, but so too may returns.”
Hallowes agrees with Clayton, noting that the SA Listed Property Index returns in excess of 40% p.a. over the past five years may not be sustainable. However, he points out that risk-adjusted returns are the more important measure to be considering, that an investment portfolio should also look at the correlation between the different asset classes as an important consideration when making investment decisions. This is the main motivation for diversification, he says.
“The correlation between SA equities and listed property over the ten years from 1996 to 2005 was 0.72 and between bonds and listed property over that period was 0.44. A similar pattern is seen in the global markets – listed property saw a correlation of 0.59 to the MSCI World Equity Index and 0.23 to the JP Morgan Global Bond Index over the past ten years. Although there is a greater correlation between equities and listed property, a well-balanced portfolio benefits from the diversification of including a proper blend of the main asset classes.”
