Investors in real estate stocks on the JSE are finally able to see light at the end of the tunnel after a torrid 2020. 

Real estate stocks have staged a remarkable recovery in recent weeks after last year’s huge tumble of 35% that was seen in the SA Listed Property Index (Sapy), which comprises more than 20 of the biggest real estate companies on the JSE. It was the Sapy index’s worst performance on record. 

Investors backing real estate stocks have been long-suffering as 2020 marked the third consecutive year in which such stocks delivered lower investment returns than general equities (the JSE All Share Index), 10-year government bonds and cash (the money market).

But in recent weeks, real estate stocks have rebounded, with the Sapy index delivering positive total returns of 20.1% so far in 2021 – outperforming bonds (delivered total returns of 0.7% over the same period), general equities (15.6%) and cash (1.2%).

Ian Anderson, the chief investment officer at Bridge Fund Managers, said the recovery of the Sapy index is linked to the improved investor sentiment due to the reopening of economies after the hard lockdown and the roll-out of Covid-19 vaccines. 

“Sentiment towards South Africa generally and property specifically has improved markedly since the start of the year as our economy opened up, and did so quicker than most other economies,” Anderson said.  

More managers of multiasset funds and hedge funds such as Allan Gray and PSG, which have traditionally avoided real estate stocks, have taken note of the rebound of the Sapy index. They have recently piled into real estate stocks, taking advantage of the stocks that are still trading lower than their pre-Covid-19 levels and offering investors attractive discounts.  

Underscoring this, is that the Sapy index is still trading at an average discount to net asset value (NAV) of close to 25%. This means that the share prices of the 50-odd real estate companies on the JSE – or real estate investment trusts (Reits) as they are commonly known – are lower than their NAV (assets less any liabilities), which suggests declining investor sentiment in a given stock’s near-term prospects. 

Nevertheless, many contrarian investors prefer to buy real estate stocks where the discount is wide (and has widened) if they believe stocks are attractively priced and fundamentals of real estate companies still look promising.

Investment prospects of the sector  

Business Maverick asked three fund managers if the prospects of real estate stocks look promising and whether now is the time to back such stocks, or bail out from the sector because 2021 might be another value-destruction year.

All the fund managers agree that investors need to think long-term and forget about the discounts that real estate stocks or Reits are offering in the short to medium term. 

“We believe that property is a buy in the medium to long term, though the journey may be volatile, and there’s high forecast risk in the short term,” said Keillen Ndlovu, the head of listed property funds at Stanlib.  

Although stocks are offering attractive discounts, investors should be prepared to see volatility in real estate stock in the short term. But it seems the worst is over in terms of huge deflations and wild swings in real estate stocks, with Ndlovu pointing to asset write-downs that have slowed to the single digits, compared with an average of more than 10% last year.

Bridge Fund Managers’ Anderson agreed with Ndlovu, saying “it does appear that the worst of the devaluations are behind us, and there might even be some scope for values to rise if the ‘new normal’ of higher vacancies and lower market rentals does not materialise to the extent forecasted during the height of the pandemic last year”.

Real estate companies, or Reits, own shopping malls, office properties, warehouses and other types of properties that are occupied by businesses (or tenants) and usually pay out regular dividends to investors from the monthly rental income they generate. Reits are required by law (such as the Income Tax Act) to pay at least 75% of their distributable income (usually from rental generated) as dividends – making the sector a consistent and reliable dividend payer in recent years.    

But Reits were forced to either cut dividends declared to investors or not declare dividends at all – including Redefine Properties, Fortress, Dipula and others – to preserve capital to shore up balance sheets and offer rental relief measures to tenants such as rental discounts and deferments. For instance, Reits have offered tenants relief measures amounting to R3-billion since the start of the lockdown in March 2020. 

Anas Madhi, the director of Meago Asset Managers, believes the decision by Reits to preserve capital and not declare dividends was a good move, which, in some instances, might have resulted in the recovery of share prices.  

“We believe it is prudent for companies to secure their balance sheet where necessary, particularly in light of the uncertain pace of vaccine rollout and economic recovery in several countries which SA property companies have invested in. Dividends… should only be paid when a company has no liquidity and solvency concerns,” said Madhi.   

Backing retail, office, industrial and other properties 

The investment allure of real estate stocks depends on the type of properties that Reits are invested in. Real estate companies have managed to largely contain vacancies in retail and industrial properties. However, in the work-from-home era, office properties are now the big worry.  

“People have not gone back to offices yet and may not for most of this year. Office vacancies are likely to increase and rents are likely to fall, and the size of the office market will shrink over time,” said Stanlib’s Ndlovu, adding that the Sapy index has a 21% exposure to office properties in South Africa and offshore markets. 

The work-from-home era means that office property landlords will struggle to attract new tenants to their buildings, or pass inflation-beating rental escalations. 

Big shopping malls – such as Sandton City in Johannesburg, the V&A Waterfront in Cape Town, Gateway in Durban, and others – will probably struggle to attract new tenants and shoppers who, during the Covid-19 pandemic, prefer smaller shopping centres that only offer essential retail outlets such as pharmacies and grocery retailers. 

Meago’s Madhi is also worried about the fate of shopping malls in South Africa. 

“We would hope South Africa can roll out vaccines quickly enough to avoid a devastating third wave and associated stringent lockdown. Outside of another lockdown scenario, we do believe that selected office and retail nodes will continue to be under significant strain with rising vacancies, as footfall in those nodes is slow to recover owing to business failures, work-from-home trends and the overall poor economic environment,” he said.

Asked about their real estate stock picks on the JSE, the fund managers have avoided the office sector. Bridge Fund Managers’ Anderson prefers Fairvest Property and Safari Investments (owners of small shopping centres), Equites Property Fund (owner of warehouses that play a big role in e-commerce in South Africa) and Stor-Age Property (offering consumers self-storage facilities). Meago’s Madhi also favours Equites and Stor-Age Property. BM/DM