MLC Wholesale Global Property A (MLC0786AU) Report & Performance

The FTSE EPRA NAREIT Global Developed (A$ hedged) index (market benchmark) returned 0.1% in Australian dollar terms in the quarter to 31 March 2023. The fund returned 0.5% (before fees and tax, A$ hedged) in the quarter, which was 0.4% ahead of the market benchmark.

The first quarter of 2023 started well as Real Estate Investment Trusts (REIT’s) updated investors on broadly sound results for 2022 and positive operating conditions continuing. Encouragingly, in the context of the recent significant increase in interest rates and earnings downgrades in other segments of the share market, REIT earnings guidance for 2023 pointed to further growth although marked by expected softer leasing conditions in the second half of the year.

A good old-fashioned US bank run (thanks to the troubles at Silicon Valley Bank) shook commercial real estate (CRE) markets which rely on banks for finance. Furthermore, given that commercial real estate corrections have often accompanied (or indeed caused) bank crises in the past, it is not surprising that commercial real estate and REITs came under pressure.

Small and regional US banks are important lenders to the sector, accounting for around 38% of total CRE mortgage debt outstanding. As such we expect credit conditions to tighten for the broader commercial real estate market, even if at this point, we see limited signs of excess specific to the CRE sector which would cause systemic failure.

Over the past decade most REITs have improved their capital structures materially and diversified their borrowings away from banks to a range of capital providers, particularly by accessing unsecured corporate debt markets. With few exceptions, the REITs are positioned to be good customers for financiers which continue to be in the business of lending money to good quality credits.

Self-storage was the best performing property sector with a total return of 12.4% in local currency terms driven by mergers and acquisitions (M&A) activity in the US.

Office was the weakest performing sector over the quarter with a total return of -8.4% in local currency terms. Longer term structural headwinds from hybrid working, combined with near-term concerns around the economy and the unfolding banking crisis weighed on office stocks. Most of the worst performing stocks were US office names, which fell more than 20% over the quarter and are now down 60-75% from pre-pandemic highs. The drawdowns in the US office stocks are approaching peak-to trough levels experienced during the GFC, while office REITs in other countries have not suffered to the same extent.

During the quarter, Presima, Resolution and BlackRock all outperformed.

The fund returned -22.0% (before fees and tax, A$ hedged) in the year to 31 March 2023, which was -0.7% behind the -21.3% return of the market benchmark. Presima outperformed while BlackRock and Resolution underperformed.

Please refer to the ‘Market commentary’ for an overview of what happened in other domestic and global markets over the quarter.

The FTSE EPRA NAREIT Global Developed (A$ hedged) index (‘market benchmark’) returned 4.1% in Australian dollar terms in the quarter to 31 December 2022. The fund returned 2.6% (before fees and tax, A$ hedged) in the quarter, which was -1.5% behind the market benchmark.

During the quarter, news broke that several high-profile U.S. unlisted real estate funds implemented restrictions on investor redemptions, including those by Blackstone and Starwood. The move to limit redemptions was in response to elevated redemption requests in the December quarter, and they follow similar actions by UK real estate funds earlier in 2022. Importantly, we expect that these private funds will have now turned from being net buyers to net sellers of properties in the coming year.

Residential has been on watch for the effects that rising rates and a cooling economy have on the outlook for jobs and rental housing demand. News of Big Tech and Wall Street job layoffs added fuel to fears that tenant demand would dissipate with losses of higher-paying jobs. Supply of new apartments remains a continued concern as construction levels are rising nationally.

In terms of office, workers are returning to offices, but it is a slow burn. In some markets, utilisation levels, while up from pandemic lows, remain stubbornly stuck as workers have not been willing to return to traditional work settings on a more frequent basis. Further weakening in office market fundamentals was evident as news of corporate layoffs increased in an environment where office leasing demand was already weak. Many traditional office markets have experienced declining net effective rents over the past two years due to a combination of lower face rates and higher lease incentives (rent free periods and fit-out allowances). In many markets, net effective rents (ie adjusting for lease incentives) are 30-40% below headline rents.

During the quarter, Presima, Resolution and Blackrock all underperformed. The fund returned -24.7% (before fees and tax, A$ hedged) in the year to 31 December 2022, which was -0.5% behind the market benchmark. Presima outperformed while Blackrock and Resolution underperformed over the year.

Please refer to the ‘Market commentary’ for an overview of what happened in other domestic and global markets over the quarter.

The FTSE EPRA NAREIT Global Developed (A$ hedged) index (‘market benchmark’) returned -10.5% in Australian dollar terms in the quarter to 30 September 2022.

The fund returned -10.3% (before fees and tax, A$ hedged) in the quarter, which was 0.2% ahead of the market benchmark.

During the quarter, Presima and Resolution outperformed while BlackRock underperformed.

Given the heightened market volatility and specifically the political environment in the UK it was no surprise that UK Real Estate Investment Trusts (REITs) were the worst performing for the quarter producing a total return of -19% (in local currency).

Listed Japanese real estate was a relative bright spot in terms of returns (in local currency) as the market benefitted from rising – albeit modest – inflation and the Bank of Japan’s commitment to maintain its yield curve control policy.

In terms of sector performance, US hotels continue to benefit from the normalisation in travel patterns as COVID concerns abate and cashed-up leisure travellers satiate their pent-up demand for holidays after two years of restrictions. Whilst business travel is rebounding, to what extent it fully recovers remains an open debate but in the near-term US hotels are enjoying reasonable demand, pricing power and a lower supply outlook than they have faced in many years.

The self-storage sector performed well during the quarter as rent growth continues despite occupancy moderating and trading conditions normalising after the pandemic demand surge.

Shopping centre vacancy across the US fell to 6.1% in the second quarter this year, the lowest level in 15 years according to Cushman & Wakefield. Notably this year is on track to be the first for net store openings across the US since 2016.

Logistics REITs were rocked in the quarter by underwhelming results from global logistics operator FedEx. While demand indicators may be weakening, infill logistics landlords continue to enjoy reasonable pricing power with many having significant rent reversion in the coming years.

The fund returned -18.8% (before fees and tax, A$ hedged) in the year to 30 September 2022, which was 0.9% above the -19.7% return of the market benchmark. Resolution Capital and Presima outperformed while Blackrock underperformed.

The FTSE EPRA NAREIT Global Developed (A$ hedged) index (‘market benchmark’) returned -15.6% in Australian dollar terms in the quarter to 30 June 2022. The fund returned -15.7% (before fees and tax, A$ hedged-8.8.) in the quarter, which was -0.1% behind the market benchmark.

During the quarter, Presima outperformed while BlackRock underperformed. Resolution performed in-line with benchmark. The fund returned -8.9% (before fees and tax, A$ hedged) in the year to 30 June 2022, which was 1.6% above the -10.5% return of the market benchmark. Resolution Capital and Presima outperformed and Blackrock underperformed.

Continuing a pattern of elevated market volatility extending back to 2019, the June 2022 quarter saw investors respond to a range of increasing economic and monetary policy headwinds with a significant sell off across multiple asset classes. Swedish and German listed real estate markets were hit hardest, generating total returns in local currency of –40% and -28% respectively. Listed Japanese real estate was one of the few markets to buck the trend, generating an overall positive return of circa 1%, Whilst Japanese Real Estate Investment Trusts (J-REITs) experienced a modest decline with a circa -2% total return, Japanese Developers posted gains. Singapore REITs (S-REITs) performed relatively strongly in the sell-off as the market suffered “only” a 4% decline for the quarter in local currency terms.

The fund returned -2.6% for the quarter and 3.2% in the year to 31 March 2021 (before fees and tax). The fund outperformed the benchmark by 0.3% for the quarter and by 3.6% over the year.

Global debt delivered a disappointing negative return for the March quarter. However, this reflects strong optimism for better health outcomes and economic activity for 2021. Promising news on virus vaccines and the strong rebound in economic activity in Australia and the US have seen longer term government yields rise sharply over the past three months. Inflation concerns given rising commodity prices and significant supply disruptions have also caused consternation in bond markets.

The FTSE EPRA NAREIT Global Developed (A$ hedged) index (‘market benchmark’) returned 10.6% in Australian dollar terms in the quarter to 31 December 2020.

The fund returned 9.7% (before fees and tax, A$ hedged) in the quarter, which was 0.9% below the market benchmark.

The announcement in November of successful vaccine developments which will potentially provide a path to social normalisation and gradual restoration of usual business practices helped the sector rebound strongly in the quarter. Development and eventual rollout of the vaccines is expected to be positive for real estate as this greatly improves the prospect of returning to physical shopping, dining out at restaurants, watching movies in cinemas, business and leisure travel and working in the office to a greater extent than has been possible during the pandemic.

The positive vaccine news drove a sharp rotation into real estate sectors that have been most challenged by the pandemic. Hotel and retail property real estate investment trusts (REITs) performed the strongest while, in contrast and unlike previous quarters, the returns of industrial, self-storage and data centres/towers were more subdued.

Country specific REIT market returns were broadly positive. France (22.3%) and Australia (13.2%) delivered the highest returns as both markets have a high exposure to retail property landlords. The UK market (11.7%) also rebounded while the US REIT market return was 5.0%. During the quarter, Morgan Stanley outperformed while Presima and Resolution Capital underperformed the unhedged market benchmark.

The fund returned -15.5% (before fees and tax, A$ hedged) for the year to 31 December 2020, which was 1.8% below the -13.7% return of the market benchmark. Morgan Stanley recorded a large performance shortfall relative to the unhedged market benchmark, due in part to their holdings of retail and office-based REITs while Resolution Capital and Presima outperformed.