Offshore diversification and quality in a tough local property market
The South African listed property sector has had a tumultuous 24 months, from being the worst performing sector in 2020 to one of the top performing sectors in 2021.
Credit can be given to management teams who navigated their way through a difficult time by focusing on supporting tenants and bolstering the balance sheet. Further credit can be given to debtholders who remained pragmatic and supported landlords through the crisis. The sector is now out of its deepest troughs as collections have recovered to more than 100% in some instances and fears of covenant breaches have since eased.
Although these short-term fears have dissipated, some of the longer-term negative structural impacts of the pandemic remain. The divergent impact of the pandemic has resulted in “winners and losers” in the various sectors. The retail sector is unfortunately one of the losers against the backdrop of rapid growth in e-commerce, and the office sector being negatively impacted by the work-from-home trend. On the other hand, the logistics and distribution warehousing space has emerged as a relative winner of the pandemic as it has benefitted from the rapid growth in e-commerce as well as supply chain optimisation.
Although the outlook for the South African property sector remains subdued given the structural headwinds and weak economic outlook, it is important to be mindful of the variance among portfolios offered in the listed property sector. On a look-through basis, approximately 50% of the South African listed sector is based in properties offshore. This phenomenon aids in geographical diversification and provides an escape from the weak fundamentals locally. It is likely that the operating performance of a property portfolio like Sirius, who own business parks in Germany, and Nepi Rockcastle, a landlord of shopping centres in the Central and Eastern European region, will differ vastly from a property portfolio predominantly exposed to South Africa.
The disparity of fundamentals within the listed property sector gives us the opportunity to cherry-pick portfolios exposed to quality properties in relevant sectors with strong fundamentals, low balance sheet gearing and management teams with good track records and specialist advantages. This combination of factors, we believe, will result in stable, defensive income streams in the future. Companies have also opted to employ pay-out ratios between 75% - 95%, income of which is not lost, but will aid in further strengthening the balance sheet and maintenance of current portfolios. This will improve the overall sustainability of dividend payments over the long term
Although property has benefitted from the rebound trade this year, we are aware of the challenges in the local environment and structural changes facing the sector. As quality focused managers, we are not benchmark-cognisant and only the best companies are included in our portfolios. We believe selecting relevant portfolios that should be able to reasonably weather any further obstacles remains a prudent strategy. Given our filtering process, the average loan-to-value of the portfolio is 31%, relative to the FTSE/JSE SA listed property index (SAPY) at 37%. This past year has been a true testament to the direct correlation between balance sheet strength and dividend payments. The Marriott Property Income Fund currently offers an income yield of 7% and expected growth in income of 3%.