T6 Managing a Property Portfolio Flashcards
Name the major property sectors?
retail, residential, commercial, healthcare and industrial
Briefly describe the types of property ownership?
Property ownership - either direct (full responsibility and management of the prop) or indirect (inv thru a fund that invests in >=1 underlying props e.g. REITs and unlisted funds)
What factors influence property allocation decisions?
- Returns
- Valuation
- Diversification
- Management
- Funding
- Tax considerations
- Liquidity
- Property sub-sectors (mainly retail, office, industrial)
- Forms of prop inv - it’s DP (Direct Prop), ULP (unlisted prop funds) or REITs each type with its own pros and cons
Describe recent issues that are of increasing importance to property investors.
- risk-return profile (think about how poorly REITs help an investor diversify due to e.g. excessive gearing )
- fee structure (consideration triggered by the low return on ULP and REITs, investors are now thinking if Rs are being eroded by a raft of ancillary fees like acquisition fee, disposal fee, leasing fee, due dilligence fee…)
- corp governance - needless to say but poor corp governance practices lead to unsustainable businesses, so seen as a contributor to Rs on REITs and ULP/ doesn’t protect the rights of the minority investors
- sustainability (REITs and ULPs been pushed to report on energy rating due to increasing concern over climate change, rising energy costs etc.) there is an index that lists those that rate well in sustainability - FTSE 4 Good Real Estate Index
- technology - e-comm moved business online away from tangile retail props, hence tech impacts the sales and rents and valuations of commercial props
What forces/factors drive property Rs?
Property Rs are driven by macroeconomic forces i.e. beyond your control and micro forces within your control.
- economy-wide forces - economic growth affects demand for prop inv/business lease (e.g. booming economy sees rising demand) ; but ‘property is a local game’ as particular laws and deman drivers are unique to certain geographies.
What is prop inv performance usually measured against? How does gov bond yield affect prop val?prop inv is made with ref to a **benchmark/hurdle R** . this is usually = a risk margin (uses judgment) + rf (10yr gov bond); risk margin needs to reflect the risk nature of the prop e.g. 6% for a high risk oppo, 2% for a low-risk prop. which is why movement in gov bond yields can significantly influence prop inv R
* if gov bond yield moves downward, then props that use this yield in the benchmark R will move up in value i.e. “a lower cap rate will produce a higher valuation”
prop inv is made with ref to a **benchmark/hurdle R** . this is usually = a risk margin (uses judgment) + rf (10yr gov bond); risk margin needs to reflect the risk nature of the prop e.g. 6% for a high risk oppo, 2% for a low-risk prop. which is why movement in gov bond yields can significantly influence prop inv R e.g. if gov bond yield moves downward, then props that use this yield in the benchmark R will move up in value i.e. “a lower cap rate will produce a higher valuation” (the idea is that yld/CR compression is good news for prop investors.)
What are the main methods for property valuation? Describe each briefly.
- CR method (capitalisation rate) - MV = NI x 100 / CR where CR used in val is chosen (so judgmental exercise really) based on the fundamental factors (occupancy level, lease structure and quality) and CRs applied to comparable props; lower the CR, higher the val (CR method assumes perpetuity of current NOI and the prop is currently worth multiple of that income)
- DCF method (discounted cash flow) - can be either NPV or IRR - NPV based on disc factor that is investor’s desired return from an inv project, and gives a basis for gauging if the purchase price is too high/low, can also be used for comparing multiple props against each other; IRR is the disc rate that makes NPV zero. all other things being equal, an inv with higher IRR is more attractive. DCF analysis particularly useful for comparing inv projects that have little comparability e.g. no sales evidence/an unusual prop
DCF or CR method. they usually result in similar valuations, (as they are based on similar assumptions and judgments)
What factors influence choice of a CR in prop val (recall that choice of CR is a judgmental exercise)?
anticipation and substitution in the prices paid for alternative inv (property/non-property), location, competition, tenant demand, type of prop, functional obsolescence, economic obsolescence etc.
However, usually CR is sourced from sales evidence of comparable props and adjusted for certain factors. the formula for calculating CR ( from the sale of a comparable prop ) is CR = NI x 100 / MV
Why and how does prop inv generally offer diversification?
Prop inv R does not move perfectly in line with Rs on other asset classes, hence has potential to reduce pf risk without significantly reducing overall pf R. DP (direct property) and ULP (unlisted prop funds) generally offer more diversification than REITs as REITs trade like stocks on ASX so they can be just as volatile as aus equity.
Why is prop management an important factor that affects prop val and R?
Because without management e.g. leasing avail space out, budgeting for expenditure, managing tenants’ requirements etc.), prop becomes neglected and can lose value over time.
What types of funding are there for prop inv?
prop inv can be funded by combination of debt and equity but note that gearing level should be set with risk-return profile of the prop in mind e.g. quality shopping centre inv can use a slightly higher gearing level as it is not as risky as the offices in secondary locations
What is the main tax consideration when allocating to prop?
negatively geared props -> tax deductions, and if commercial, can claim tax deduction on fixtures deprec i.e. deprec charges can offset taxable income from the prop, hence lower’s the tax payable.
Briefly describe the extent of liquidity of prop inv?
REITs are relatively liquid as they trade like stocks on the ASX. Other forms of prop inv however have very low liquidity, esp. DP due to nature and size, and high transaction costs (govt charges like stamp duty, fees charged by agents, valuers etc.)
Name the major sub-sectors of property.
Retail, office, industrial sectors comprise the majority of the investment-grade commerical property. Each has a diff risk-return profile as each has diff sensitivity to macro and mico influences, which, in turn, impacts prop val differently.
Why don’t wholesale investors (REITs, super funds, insurance coys) invest in residential prop?
Residential prop usually have a low yld of 2-4% hence don’t usually attract wholesale investors.
What are the pros and cons. of ULP (unlisted prop funds)?
- typical structure of an UPF - purchase a pf of props in a trust structure and is owned by a group of investors. think of it as a pool of properties with total value unitised
- unlisted and listed funds emerged to provide investors with exposure to direct property, without some of the cons of DP
Pros
* small outlay gets you exposure to diversified pf of large, investment-grade commercial props
* no need for day-to-day time and expenses with managing underlying props
Cons
* no control over prop inv strategy
* fund manager charges fees for managing the prop pf ; potential conflicts b/w fund managers and investors (you want highest R, but fund manager’s fee is fund size-based so he may buy unnecessary props for the fund)
* transaction price depends on last reported NAV (which depends on the valuations of each prop)
* can be very illiquid too coz not listed on stock exchange so all buying/selling goes through fund manager who may have to suspend redemptions or sell one or more prop owned by the fund for cash to fund redemption requests (when a large number of investors want to sell at a NAV but no buyers want to buy at the prevailing NAV)
