Quay Global Real Estate-Daily Series (BFL0020AU) Report & Performance

July was a strong month, with the Fund up +4.2%. However, a stronger AUD detracted -0.9% from a +5.1% local currency return. July’s return adds to the positive returns in the first half, with +10.5% returns since the beginning of the year. The strongest contributor in July, as in June, was US Office landlord Empire State Realty. On top of favourable news, the company reported 2Q earnings in July with strong leasing volumes and positive cash rent spreads. ESRT’s Manhattan office occupancies continued to increase to 91.6% in June, from 88.3% a year earlier. Cash leasing spreads at 14.7% have shown an upward trend since mid2021; which coupled with rising occupancy does not suggest a market in strife, notwithstanding negative media headlines.

Other strong contributions were made by investees LEG Immobilien (German Apartments) and Unite Group (UK Student Accommodation). Listed German apartment landlords enjoyed a rally this month as investee LEG Immobilien upgraded its earnings forecast and announced better revaluations than anticipated. Unite reported firsthalf results this month, with strong numbers, a profit upgrade and a successful equity raise to fund its development pipeline and improve its credit metrics. With the bulk of US second-quarter reporting season behind us in early August, REIT reports were mostly positive, with many companies beating quarterly earnings expectations.

However, conservative outlooks have by and large been retained with management reporting positive operating outlooks, tempered by the capital market and macro environment. Residential results have been positive with earnings beats and upgrades, steady rental growth for apartment and accelerating rental growth for single-family homes. Office results have been quite positive; however, management teams are still cautious, and earnings expectations are still quite low.

Despite the intra-month volatility, June saw the Fund up +1.7% in AUD, with a stronger AUD detracting -2.0% from a +3.7% local currency return. Halfway through the calendar year, the Fund has returned +6.1% so far.

The strongest contributors in June came from US Office landlord Empire State Realty. Empire State’s embattled listed peer, SL Green, announced a $2 billion sale of a 50% stake in 245 Park Avenue to Japanese investor Mori Trust. The pricing positively surprised the market, which was around $1,200 per square foot and the same price SL Green paid for it last September.

Other strong contributions were made by investees Ventas (US Health) and Simon Property (US Malls). Our team visited NAREIT this month – the feedback was overwhelmingly yet cautiously optimistic. Ventas is enjoying a post-COVID recovery in Seniors Housing, with strong demand and lack of new supply fuelling rising occupancy and rate combined with decreasing operating expenses. On retail, sales across the board are positive, especially for luxury. Retailers are now focused back on physical stores, with malls being more affordable today, reflected by lower occupancy costs.

On the topic of Simon Property, we went back to the 90’s in this month’s Investment Perspectives – looking at the resilience of ‘best-in-class’ mall rents during Australia’s recession “we had to have.” With more talk of a rateinduced recession in Australia, we believe that the best retail locations are critical profit centres and especially important during recessions. The result of this is earnings certainty – something sought after in an environment of collapsing cyclical earnings outlooks. Simon Property owns a portfolio of some of the best malls in the United States.

Global real estate remains volatile, as some of April’s gains were lost in May. The Fund roughly matched the broader index declining -2.9% (despite a 1.5% benefit from a weaker AUD).

Despite the volatility, fears of a banking crisis, sticky inflation and uncertain earnings; calendar year to date portfolio returns have been +4.3%.

The strongest contributors to the Fund’s return in May were overwhelmingly US residential stocks which, is not surprising since most private data providers are confirming the lack of for-sale inventory is resulting in a recovery and acceleration of residential prices.

As we discussed in last month’s Investment Perspectives there appears to be a clear global trend with rising residential prices. For some, there may be a temptation to take advantage of this opportunity via listed residential developers. However, in this month’s Investment Perspectives we highlight these types of stocks can be poor proxies for the residential market.

A reminder the portfolio retains a significant allocation to residential property (standalone homes, apartments and manufactured homes) where we find a stronger long-term relationship between underlying residential prices and stock returns without the need to take on development risk.

After last month’s torrent of bad headlines for the asset class, cooler heads prevailed in April which was reflected in the portfolio’s +4.9% return, more than reversing last month’s loss. A nice recovery in Euro and Sterling assisted in the +1.7% currency gain.

The best performers this month reflected the diversity of the portfolio. Ventas (US Healthcare), LEG Immobilien (German Apartments) and Invitation Homes (US Housing) all posted significant gains.

The solid recovery in our US housing exposure is not a surprise. While local discussion focuses on residential price recovery in Australia, various house price indicators suggest house prices may have bottomed in the US during the months of February and March (while rent continues to march relentlessly higher). We are also seeing nice house price gains in other markets including Canada, UK and Germany. All this despite globally higher interest rates. So, what is going on? Is FORA (fear of renting again) driving global house price growth? We dig into the issue in this month’s Investment Perspectives.

The portfolio returned -0.1% for February against the Index return of -0.1%. Currency movements provided a benefit of +3.5%. The AUD depreciated against most currencies in a risk-off environment.

This month our top four contributors were all Storage names – Cubesmart (US), Safestore (UK), Shurgard (Europe), and Big Yellow (UK). Our Storage investees reported exceptionally strong numbers for the latest reporting period. In the US, Cubesmart’s 4th quarter earnings exceeded market expectations and their own guidance. Pleasingly, same store rental rate growth remains above 10% with very little deceleration seen. Safestore reported a very strong 1Q trading update that indicates there is no slow-down in momentum in the European Storage story. Occupancy, Same Store revenue and rate growth continue to accelerate past expectations.

On the other end, Empire State Realty (US Office), AMH (US Single-Family), and Sun Communities (US Manufactured Housing) were our laggards. Fourth quarter earnings for Empire State and Sun Communities beat market expectations and AMH’s earnings were in-line with expectations. However, two of these companies poorly performed this month on the back of weak company guidance for FY23 earnings (AMH and Sun). This was due to outsized expense growth forecast for ’23 of +8-10%+. In our view, the investment thesis remains intact given revenue growth remains solid and expense growth will normalise in the medium term.

Unfortunately, the portfolio fared a similar fate to the broader market, with a -3.7% return for December. An appreciation in the Australian Dollar amounted to a currency headwind of -0.8%, which further detracted from local stock performance of -2.9%.

Single-family residential did not have a good December – our two US single-family investees Invitation Homes and American Homes 4 Rent were the two largest detractors. While supply indicators such as single-family housing starts have been in decline throughout 2022, housing inventory (that is, listings) have also dried up. As is the case in Australia, housing values in the US are declining and owners are delaying any sell decisions during periods of price weakness. While some investors focussed on NAV might read-through with a lower implied value, our investees aren’t in the business of ‘flipping’ homes – they are focussed on operating a rental business. To that end, singlefamily rents remain robust, and the underlying value proposition remains for tenants and many investors.

Our two US healthcare investees Welltower and Ventas also detracted this month, likely in response to higher interest rates. This is despite positive sentiment around rate increases in their seniors housing portfolio.