The S&P/ASX 300 A-REIT Accumulation Index increased by marginally less quarter-on-quarter, giving up 0.6%. Property stocks underperformed broader Australian equities, with the S&P/ASX 300 Accumulation Index adding 4.2%.

The relative weakness of property securities was likely driven by an uptick in bond yields over the period. The Ten-Year Australian Government Bond began the quarter with a yield of 0.97% and closed March at a yield of 1.80%. A move towards reopening globally following restrictions associated with the suppression of COVID-19, in concert with a swathe of fiscal stimulus across the developed world drove the move in bond yields. The risk of inflation, which seemed remote six months ago, has now re-entered the thoughts of many market participants.

Property funds are particularly leveraged to bond yields. As such, it was unsurprising that property funds represented one of the weakest performing sectors over the quarter. This weaker performance occurred despite strong underlying performance presented in February’s reporting season. Both Goodman Group (GMG) and Charter Hall Group (CHC) reported robust growth in assets under management and upgraded earnings guidance. Despite this, CHC lost 12.4%, whilst GMG gave up 4.2%. Smaller capitalisation fund manager APN Property Group (APD) also lost ground, falling 9.3%.

Owners of shopping malls were the key outperformers for the March quarter. A combination of Australia’s success in supressing the spread of COVID-19 and large government stimulus buoyed retail spending across the most recent reporting period. Owner of Westfield-branded Australian malls, Scentre Group (SCG), added 4.0%, whilst competitor Vicinity Centres (VCX) gained 3.1%. Owners of grocery anchored neighbourhood shopping centres also outperformed, with Charter Hall Retail REIT (CQR) up 4.6% and Shopping Centres Australasia (SCP) giving up only 0.4%.

Office property owners were predominantly laggards for the quarter as continued pressure on effective rents and physical occupancy weighed on share prices. GDI Property Group (GDI) gave up significant ground, losing 11.6%. Elsewhere, Mirvac Group (MGR), Centuria Office REIT (COF) and Cromwell Property Group (CMW) fell by 5.3%, 4.1% and 3.3% respectively. Large office owner Dexus (DXS) bucked the trend, adding 3.7%, supported by an active buy-back initiated late in the quarter.

Infrastructure assets are also sensitive to bond rates as they often own long-term concessions with largely contractual cash flows. As such, stocks with infrastructure exposure were weak over the recent period. Sydney Airport (SYD) lost 3.4%, whilst toll road operator Transurban Group (TCL) gave up 2.5%.

Market outlook

Since the onset of COVID-19, the listed property sector has been amongst the most volatile core asset classes both domestically and globally. The 35.1% fall of the S&P/ASX 300 Property Accumulation Index in March 2020 was followed by a swift recovery, and further subsequent weakness in the last three months, as bond yields have risen.

Such extreme volatility can partly be explained by the uncertain impacts of the crisis, where a once very forecastable sector had suffered from the withdrawal of earnings guidance, expected cuts to contracted rents in support of tenants and a renewed focus on balance sheets and the cost and availability of debt. In many cases, a strong recovery is now priced into securities, however this varies significantly across the sector.

We remain cognisant of the structural changes occurring in the retail sector with the growing penetration of online sales and the greater importance of experiential offering inside malls. Recent events will likely accelerate these changes. Furthermore, in the short term, discretionary retail sales are likely to be driven by government stimulus and may be highly varied across retailers and dependent upon social distancing restrictions. These issues are well understood and explain why retail stocks have been the most volatile of all property sub-sectors.

As COVID-19 passes, and earnings become more forecastable again, the market will be able to refocus on a resilient listed property sector which is currently supported by low bond yields. February’s reporting season once again demonstrated the resilience of earnings generated by property securities.

We have for some time now discussed the potential risk of inflation, given the enormous fiscal stimulus and extreme monetary policy setting that we now live with. In very recent times, commentators and bond markets have begun to acknowledge the presence of such a risk. We are keeping a watching brief on this matter. Historically, real assets such as property and infrastructure have performed well during inflationary periods.