CFS Wholesale Property Securities (FSF0004AU) Report & Performance

The fund returned -5.88% in the March quarter, outperforming the ASX 200 A-REIT Index by 91 bps The funds exposure to the residential sector in Stockland benefitted performance in the quarter. Improving residential data points boosted sentiment in the sector, namely the return to positive house price growth and increases in transaction volumes.

The fund’s holdings in the self-storage and logistics sector both benefitted performance in the quarter. Both sectors benefitted from demonstrating relatively defensive characteristics amidst wider market sell-offs.

The portfolios exposures to the fund managers and office sectors underperformed in the month. Both sectors have been impacted by mounting concerns of tightening credit markets and weakness in office markets, which could have ramifications for office values. Volatility in interest rates could result in less investor conviction and lower transaction activity.

The funds exposure to their lifestyle and communities sector through Ingenia Communities Group detracted from performance in the quarter. Revised FY23 guidance based on their reduced home settlements profile saw the stock materially retrace.

The February AREIT reporting season highlighted several key themes across the respective property sub-sectors including issues such as capital management metrics and drivers for earnings growth.

Generally retail landlords reported materially improved operating metrics from the standpoint of: cash collection levels, portfolio occupancy, improvement in like-for-like income growth, re-leasing spreads and reduction in the pool of tenants in holdover. In broad terms sales growth across key segments across the specialty retail categories were materially improved on previous corresponding trading periods. AREITs remain cautious and selective with respective to the deployment of capex for development activity.

The rise in short-term interest rates and the flow on effect for interest rate hedging profiles saw AREITs expecting higher all-in interest rates for 2H2023 and into 2024 which has placed earnings headwinds for a number of AREITs depending on their specific hedging profile. AREITs expect to increase their hedging profile in 2024/2025 yet are awaiting a firmer direction in rates in order to achieve an optimum hedging profile from the standpoint of both rate and level of hedging.

AREITs with material office portfolios reported elevated leasing incentives in order to support face rents in order to address soft demand as tenants weigh up the alternative hybrid office working models and what best fits their business.

Whilst several AREITs have progressed schemes in the pre-development phase for larger office development projects AREITs are looking to sell down a material interest in the office sector to third parties to reduce their capex spend and receive fees for development services provided to third parties.

The logistics sector will remain a development focus for several AREITs that seek to either hold a 100% interest on balance sheet or else sell down a part interest in response to ongoing demand for A grade logistics product. The level of demand has seen some AREITs speculatively develop product in order to receive the mark-to-market rent rather than agree a lower than market rent as a trade-off for securing a tenant pre-commitment.

The fund returned 12.44% in the December quarter, underperforming the ASX 200 A-REIT Index by 64 bps The fund’s holdings in the residential sector and holiday and lifestyle parks sector benefitted performance in the quarter. Despite revising its FY23 guidance to be at the lower end of the previous FY23 range, Ingenia Communities group’s forecast EBIT growth of 30% and EPS growth of 5% could see it have forecast FY23 growth above the sector average which led to the stocks outperformance in the quarter. A relaxation on cash rate expectations is causing investors to become more positive on residential housing markets. Similarly, the funds residential holdings in Mirvac and Stockland aided fund performance for the same reason despite facing short to medium term headwinds. The fund’s exposures to the childcare sector also benefitted performance in the quarter on no stock specific news.

Similarly, the fund’s select exposure to retail AREITs outperformed in the quarter. Region group outperformed as December 2022 revaluations saw its portfolio weighted average capitalisation rate increase by a modest 23bps reflecting both devaluations and acquisitions. The valuation movements underscored the defensive nature of the portfolio’s cash flow. Although consumer sentiment is sitting at historically low levels the funds shopping mall exposures benefitted performance in the month against a backdrop of supportive consumer spending behaviour reflecting a balance between strong employment data offset by heighted inflation levels.

The December 2022 revaluations generally saw capitalisation rates soften and despite above cyclical rent growth saw carrying valuations fall modestly.

The September quarter operational updates saw several themes emerging. For residential developers such as Mirvac Group and Stockland residential lot settlements are materially below settlement levels achieved in the previous corresponding period with reasons for this pullback drawn from the impact of rising rates and potential purchasers waiting for interest rates to stabilize. Despite the reported weakness in the September quarter metrics from a lot settlement standpoint both Mirvac Group and Stockland have reaffirmed their initial FY23 earnings and distribution guidance with both AREITs highlighting a 2HFY23 skew to their respective forecast settlement profiles.

The fund returned -10.46% in the September quarter, underperforming the benchmark by 65 bps.

The portfolios exposures in the Americas detracted from fund performance in the quarter, due to the wider sell off of US REITs. Amidst volatility in US REIT markets, a tactical position in the logistics sector benefitted the funds’ performance in the month as a continuation of M&A activity drove further increases in its share price. The funds exposures to growth oriented sectors such as the data center sector and logistics sector detracted from performance in the quarter. Data centers were more affected by increases in the cost of debt, which is likely to slow future development activity whereas the logistics sector mostly detracted due to heightened recession risks, which swayed investor confidence in the ability to pass through inflation although the sector remains fundamentally sound. The funds exposures to the seniors housing sector also detracted from performance, 2Q earnings came in below expectations. The earnings miss was driven by cost pressures driven by elevated labour expense.

Throughout Europe, macroeconomic headline risk continued to influence listed property markets which was reflected by the greater sell-off of the market. Regionally, the funds exposures through France were more defensive although still declining in the month. At a sector level, the Logistics and German Residential sectors detracted from fund performance as markets factored in property yields expansion weigh down on performance.

The funds exposures to Asia were more resilient in the quarter as the region continues to demonstrate defensive characteristics at times when confidence in American and European property markets wanes. Holdings in large Japanese property landlords continued to aid the portfolios resilience in the quarter, as elevated inflation expectations, a material discount to net asset values and hospitality exposures likely to benefit from the reopening of Japan have aided investor sentiment in the space. Similarly, exposures to the hotel and retail sectors in japan benefitted the funds’ performance in the month.

The fund returned -16.83% in the June quarter, outperforming the ASX 200 A-REIT Index by 86bps

In the quarter the Australian REITs mostly declined due to a greater than expected interest rate hike and fears that economic conditions will worsen into 2022. The sell-off impacted high growth oriented A-REITs, particularly the logistics sector and funds management companies. As a result the funds’ performance retraced in the quarter, although certain holdings were more defensive which aided the portfolios resilience.

The childcare sector outperformed the AREIT sector in the quarter, which lessened the impact of the greater sector sell-off to the fund. Arena REIT noted the new Labor Federal Government’s proposed changes to the Child Care Subsidy (CCS) should bolster childcare demand which was viewed positively by investors.

Similarly, the funds shopping mall exposure benefitted performance in the quarter following better-than-expected retail trading conditions and cash collections. Vicinity Centres provided an update on its $2.9bn mixed-use development pipeline, which has now progressed to the execution phase after a number of drawbacks in recent years due to Covid. The sector significantly outperformed the AREIT sector in the quarter which aided the funds’ performance.

Exposures to the logistics sector and the lifestyle communities sector both detracted from the funds’ performance in the quarter. The logistics sector was affected by a pullback in development activity in response to an update released by Amazon in the quarter and the lifestyle communities sector saw a reduction in forecast residential lots sales for FY22 due to supply chain issues.

In Australia, we remain well positioned in the logistics sector due to a continuation of strong tenant demand for both existing product reflected in market rent growth ranging from 6%-10% depending on the sub-market as well as a material take-up in demand for newly completed product evidenced in speculative product being fully leased either prior to or at completion. The sector is also demonstrating strong offshore institutional interest who are looking to partner with domestic groups to gain exposure to Australian logistics assets. Despite the positive momentum in valuations sourced from market evidence there is an expectation of still room for capitalisation rates to tighten albeit at a more modest rate than we have seen in the past 2-3 years.

We also remain invested in the shopping mall sector which has seen a better than expected recovery in 2022. Increases in inflation in necessities (particularly food) have not yet shown to affect consumer discretionary spend which has been a positive for the sector. Current development activity in the shopping mall sector is concentrated on backfilling underperforming tenants such as Department Stores and Discount Department Stores. Although shopping malls will be affected by structural tailwinds we continue to remain invested in positions that demonstrate implementation of mixed-use strategy and also in positions showing unwarranted valuation differential.

During June, there was evidence of cap rate expansion (~10bps) in the Australian office sector which is the first sign of what is expected to be a further expansion in the future of (~80bps). Although office utilisation rates have increased from a low base, they will continue to remain affected by remote working flexibility which we believe will affect ‘B grade’ office to a greater extent than it will ‘A grade’ office. Any exposure to the sector will mirror this view.

The Realindex Global Share Hedged Fund returned -1.14% (net of fees) during the March quarter, outperforming the MSCI All Countries World ex Australia Net Index Hedged which returned -5.25% (in AUD). The AUD rose 3.3% against the USD over the quarter. Value stocks outperformed Growth stocks by 8.3% over the quarter (MSCI AC World ex AU Value -4.4% vs. Growth -12.7%, in AUD). Over the past year, Value has outperformed Growth by 3.3% (AUD), while on a five year basis Growth has outperformed Value by 8.1% p.a. (AUD), providing a significant longer-term performance headwind.

The first quarter of 2022 saw market and geopolitical turbulence spurred by the Russian invasion of Ukraine on the 24th of February. This created additional and unexpected supply-side dislocations that has played out in the commodities space, especially in Agriculture and Energy. Whilst Energy stocks were a key mover for this quarter, we note a dichotomy between developed and emerging markets.

Developed market energy stocks performed well, whilst emerging market energy stocks weighed down by the Russian sell-off performed particularly poorly. As fears of an economic downturn continue to give way to managing the risks of a spike in energy, food and commodity prices more broadly, the cyclically oriented Value sectors outperformed defensive Growth oriented sectors. From a style perspective, Value and low risk stocks as highlighted by their historic price volatility were again heavily favoured by investors, while growth related names were the main underperformers. In developed markets, most regions underperformed (MSCI World: -8.2% in AUD terms). Energy and Materials were the two sectors that outperformed all others (MSCI World Energy: +26.5% in AUD terms, MSCI World Materials -0.6% in AUD terms) aided by the renewed surge in commodity prices. Consumer Discretionary (-13.5% in AUD terms) was the largest underperformer. Over the quarter, Value outperformed Growth and the broader market cap index (MSCI World Value at -3.8%, Growth at -12.5% and aggregate at -8.2% in AUD terms). This was largely driven by Energy stocks. Rising interest rates have dampened return expectations of equities with longer dated cash flows, and as such have affected Growth names.

In emerging markets, Russia was delisted from the MSCI EM index in March. As a result, the energy rich Russian market pushed the Energy sector down (MSCI EM Energy: -23.2% in AUD terms). Consumer Discretionary and IT sectors also significantly underperformed (-19.1% and -14.1% in AUD terms respectively). The bulk of this was driven by the Chinese market sell-off over concerns of further US sanctions. Regionally, the largest contributor was the underweight to North America and the largest detractor was the overweight to Developed Asia. From a sector perspective, the largest contributor was the underweight to North America and the largest detractor was the overweight to Developed Asia. The largest stock level contributor was the underweight to Meta Platforms, Inc. and the largest stock level detractor was the overweight to Public Joint Stock Company MMC Norilsk Nickel.

The ASX 200 A-REIT Index underperformed the broader market returning -0.47% in the March 2021 quarter, with the ASX 200 Index returning 3.1%. The best sector performers were the diversified AREITs and AREITs with material exposure to CBD office markets and shopping mall owners. The rollout of Covid-19 vaccines has now begun in Australia and community transmission of the virus has remained supressed. This has boosted optimism now that the majority of remaining restrictions have been loosened, paving the way for a strong rebound in economic growth. The Australian economy continues to recover, whilst retail sales for February fell -0.8% (mom) they were up strongly 9.1% (yoy) providing further evidence of a healthy household sector. The yield on 10-year Australian government bonds rose 82 bps to close at 1.8% during the March quarter. The ‘risk free rate’ remains supportive of the A-REIT sector despite the rise in yield over the March quarter.